10-K 1 d447263d10k.htm FORM 10-K Form 10-K
Table of Contents

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington D.C. 20549

FORM 10-K

(Mark One)

þ ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the fiscal year ended October 31, 2012

OR

 

¨ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

Commission file number 1-14229

QUIKSILVER, INC.

(Exact name of registrant as specified in its charter)

 

Delaware   33-0199426

(State or other jurisdiction of

incorporation or organization)

 

(I.R.S. Employer

Identification Number)

15202 Graham Street

Huntington Beach, California

92649

(Address of principal executive offices)

(Zip Code)

(714) 889-2200

(Registrant’s telephone number, including area code)

Securities registered pursuant to Section 12(b) of the Act:

 

Title of

each class

 

Name of each exchange

on which registered

Common Stock   New York Stock Exchange

Securities registered pursuant to Section 12(g) of the Act:

None

Indicate by check mark if the Registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes  ¨  No  þ

Indicate by check mark if the Registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act. Yes  ¨  No  þ

Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes  þ  No  ¨

Indicate by check mark whether the Registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the Registrant was required to submit and post such files). Yes  þ  No  ¨

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of Registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. þ

Indicate by check mark whether the Registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act (Check one).

 

Large Accelerated Filer ¨   Accelerated Filer þ   Non-Accelerated Filer ¨   Smaller reporting company ¨
    (Do not check if a smaller reporting company)  

Indicate by check mark whether the Registrant is a shell company (as defined in Rule 12b-2 of the Act). Yes  ¨  No  þ

The aggregate market value of the Registrant’s Common Stock held by non-affiliates of the Registrant was approximately $452 million as of April 30, 2012, the last business day of Registrant’s most recently completed second fiscal quarter.

As of December 31, 2012, there were 166,443,461 shares of the Registrant’s Common Stock issued and outstanding.

DOCUMENTS INCORPORATED BY REFERENCE

Portions of the Registrant’s Proxy Statement for the Annual Meeting of Stockholders to be held March 19, 2013 are incorporated by reference into Part III of this Form 10-K.

 

 

 


Table of Contents

TABLE OF CONTENTS

 

         Page  

PART I

    

Item 1.

  BUSINESS      1   
  Introduction      1   
  Our Mission and Strategies      1   
  Brands      1   
  Distribution Channels      2   
  Geographical Sales      3   
  Product Categories      4   
  Seasonality      4   
  Retail Concepts      4   
  Future Season Orders      5   
  Segment Information      5   
  Product Design and Development      5   
  Production and Raw Materials      6   
  Imports and Import Restrictions      6   
  Promotion and Advertising      6   
  Trademarks, Licensing Agreements and Patents      7   
  Competition      8   
  Employees      8   
  Environmental Matters      8   
  Available Information      8   

Item 1A.

  RISK FACTORS      9   

Item 1B.

  UNRESOLVED STAFF COMMENTS      17   

Item 2.

  PROPERTIES      18   

Item 3.

  LEGAL PROCEEDINGS      18   

Item 4.

  MINE SAFETY DISCLOSURES      18   

PART II

    

Item 5.

  MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES      19   

Item 6.

  SELECTED FINANCIAL DATA      19   

Item 7.

  MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS      21   

Item 7A.

  QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK      36   

Item 8.

  FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA      38   

Item 9.

  CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE      38   

Item 9A.

  CONTROLS AND PROCEDURES      38   

Item 9B.

  OTHER INFORMATION      41   

PART III

    

Item 10.

  DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE      42   

Item 11.

  EXECUTIVE COMPENSATION      42   

Item 12.

  SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS      42   

Item 13.

  CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE      42   

Item 14.

  PRINCIPAL ACCOUNTANT FEES AND SERVICES      42   

PART IV

    

Item 15.

  EXHIBITS AND FINANCIAL STATEMENT SCHEDULES      43   

INDEX TO CONSOLIDATED FINANCIAL STATEMENTS

     44   

SIGNATURES

     81   


Table of Contents

PART I

Item 1. BUSINESS

Introduction

Quiksilver, Inc. (together with its subsidiaries, the “Company,” “we,” “us,” or “our”) is one of the world’s leading outdoor sports lifestyle companies. We design, develop and distribute a diversified mix of branded apparel, footwear, accessories and related products. Our brands, inspired by the passion for outdoor action sports, represent a casual lifestyle for young-minded people who connect with our boardriding culture and heritage. Our Quiksilver, Roxy, DC, Lib Tech and Hawk brands are synonymous with the heritage and culture of surfing, skateboarding and snowboarding. Our products combine decades of brand heritage, authenticity and design experience with the latest technical performance innovations available in the marketplace.

Quiksilver, Inc., a Delaware corporation, was incorporated in 1976 and became a publicly-traded company in 1986 (NYSE: ZQK). Our products are sold in over 90 countries through a wide range of distribution points, including wholesale accounts (surf shops, skate shops, snow shops, specialty stores, and select department stores), 829 owned or licensed Company retail stores, and via our e-commerce websites. In fiscal 2012, more than 60% of our revenue was generated outside of the United States. Our global headquarters is in Huntington Beach, California. Our fiscal year ends on October 31. References to fiscal 2012, 2011 and 2010 refer to the years ended October 31, 2012, 2011 and 2010, respectively.

Our Mission and Strategies

Our mission is to be the most sought-after outdoor sports lifestyle company in the world by inspiring individuality, creativity, and freedom of expression through our authentic products along with the lifestyle and culture of our brands.

In our efforts to increase shareholder value, we have adopted three long-term strategies: 1) strengthening our brands; 2) increasing our sales globally; and 3) increasing our operational efficiency. Under each of these strategies, we are pursuing specific initiatives as outlined below:

Strengthening our brands: investing in social media, enhancing athlete activation, migrating marketing spend closer to the point of customer contact, and increasing brand exposure in emerging markets.

Increasing our sales globally: improving brand segmentation and channel specific product collections, extending our wholesale distribution, expanding and improving our e-commerce platform, investing in emerging markets, and expanding women’s and outdoor fitness product offerings.

Increasing our operational efficiency: redesigning core processes to global scope, reorganizing our corporate structure to enhance brand management, investing in a global supply chain, centralizing key activities into global centers of excellence, implementing global IT systems and improving aggregation of data to support global processes.

The goal of these strategies is to allow us to generate continued sales growth and increase operating income as a percentage of sales. However, there can be no guarantee that the efforts contemplated by these strategies will improve our operating results. For a description of significant risks and uncertainties that could hinder our strategic efforts, please refer to “Item 1A. Risk Factors”.

Brands

Our brands target the action sports lifestyle and broader outdoor market. Quiksilver and Roxy are leading brands rooted in surfing and are also prominent in skateboarding and snowboarding. DC’s reputation is based in skateboarding but it is also popular in BMX, motocross and snowboarding. We have also developed a portfolio of other brands inspired by surfing, skateboarding and snowboarding.

 

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Net revenues by brand as a percentage of total net revenues for each of the last three fiscal years were as follows:

 

     2012     2011     2010  

Quiksilver

     39     41     42

DC

     30     28     26

Roxy

     26     27     29

Other Brands

     5     4     3
  

 

 

   

 

 

   

 

 

 

Total

     100     100     100
  

 

 

   

 

 

   

 

 

 

Quiksilver

We have grown our Quiksilver brand from its origins in 1976 as a line of boardshorts to include a full range of products for men, women and children inspired by surfing and boardriding sports.

DC

We have grown our DC brand, which we acquired in 2004, from its origins as a line of technical skateboarding shoes to include a full range of products for men, women and children inspired by skateboarding, motocross, BMX, rally car and snowboarding.

Roxy

Our Roxy brand, introduced in 1991, includes a full range of products for young women and children inspired by surfing, beach and boardriding sports.

Other Brands

We have also developed or acquired several other brands, including, but not limited to, Hawk, a Tony Hawk-inspired line targeted at the skateboarding market, Lib Technologies and Gnu, which are targeted at the core snowboarding market, and several small surf-inspired brands.

Distribution Channels

We sell our products in over 90 countries around the world through wholesale customers, our own retail stores and via e-commerce. Net revenues by distribution channel as a percentage of total net revenues for each of the last three fiscal years were as follows:

 

     2012     2011     2010  

Wholesale

     73     76     75

Retail

     23     22     24

E-commerce

     4     2     1
  

 

 

   

 

 

   

 

 

 

Total

     100     100     100
  

 

 

   

 

 

   

 

 

 

Our wholesale revenues are spread over a large and diversified customer base. During fiscal 2012, approximately 16% of our consolidated revenues were from our ten largest customers, and our largest customer accounted for approximately 3% of such revenues. In the wholesale channel, our products are sold in major markets by over 300 independent sales representatives in addition to our employee sales staff. In smaller markets, we use over 150 local distributors. Our independent sales representatives are generally compensated on a commission basis. We employ retail merchandise coordinators who travel between specified retail locations of our wholesale customers to further improve the presentation of our product and build our brand image at the retail level.

We believe that the integrity and success of our brands is dependent, in part, upon our careful selection of appropriate retailers to support our brands in the wholesale sales channel. A foundation of our business is the distribution of our products through surf shops, skateboard shops, snowboard shops and our own proprietary

 

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retail concept stores, where the environment communicates our brand and culture. Our distribution channels serve as a base of legitimacy and long-term loyalty to our brands. Most of our wholesale accounts stand alone or are part of small chains.

Our products are also distributed through active lifestyle specialty chains. This category includes chains in the United States such as Zumiez, Tilly’s, Famous Footwear, and Journeys, chains in Europe such as Go Sport, Intersport and Sport 2000, and chains in the Asia/Pacific region such as City Beach and Murasaki Sports. Limited collections of our products are distributed through department stores, including Macy’s in the United States, Galeries Lafayette in France, and El Corte Ingles in Spain.

Our products are found in approximately 48,000 store locations throughout the world.

For a discussion regarding our retail distribution channel, please see “Retail Concepts” below.

We also operate several e-commerce websites that sell our products throughout the world and provide online content for our customers regarding our brands, athletes, events and the lifestyle associated with our brands.

Geographical Sales

Our sales are globally diversified and are managed regionally. Net revenues in our Americas segment are primarily generated from the United States, Canada, Brazil and Mexico. Net revenues in our Europe, Middle East and Africa segment (“EMEA”) are primarily generated from continental Europe, the United Kingdom, and South Africa. Net revenues from our Asia/Pacific segment (“APAC”) are primarily generated from Australia, Japan, New Zealand and Indonesia. The following table summarizes our net revenues by country as a percentage of total net revenues (excluding licensees) for each of the last three fiscal years:

 

     2012     2011     2010  

United States

     39     35     34

France

     11     11     11

Australia/New Zealand

     8     7     8

Spain

     6     7     8

Canada

     6     6     6

Japan

     5     5     5

United Kingdom

     4     3     3

Brazil

     3     3     3

Germany

     3     3     2

All other countries

     15     20     20
  

 

 

   

 

 

   

 

 

 

Total

     100     100     100
  

 

 

   

 

 

   

 

 

 

We generally sell our apparel, footwear, accessories and related products to wholesale customers on a net-30 to net-60 day basis in the Americas, and on a net-30 to net-90 day basis in EMEA and APAC depending on the country, product category, and whether we sell directly to retailers in the country or to a distributor. Some customers are required to pay for product upon delivery. We generally do not reimburse our customers for marketing expenses or guarantee margins to our customers. A limited amount of product is offered on consignment within APAC and EMEA.

For additional information regarding our operating segments, please see Note 14, “Segment and Geographic Information”, to our consolidated financial statements.

 

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Product Categories

We offer a combination of apparel, footwear, accessories and related products within each of our core brands. Net revenues by major product category as a percentage of total net revenues for each of the last three fiscal years were as follows:

 

     2012     2011     2010  

Apparel

     63     61     64

Footwear

     24     23     21

Accessories and related products

     13     16     15
  

 

 

   

 

 

   

 

 

 

Total

     100     100     100
  

 

 

   

 

 

   

 

 

 

Typical retail selling prices of some of our primary products on a segment basis are as follows:

 

     Americas      EMEA      APAC  
     (USD)      (Euros)      (AUD)  

T-shirt

     22         25         35   

Walking Short

     54         53         59   

Snowboard Jacket

     192         133         243   

Skate Shoe

     72         61         76   

Seasonality

Although our products are generally available throughout the year, demand for different categories of products changes in different seasons of the year. Sales of shorts, short-sleeve shirts, t-shirts and swimwear are higher during the spring and summer seasons. Sales of pants, long-sleeve shirts, fleece, jackets, sweaters and technical outerwear are higher during the fall and holiday seasons. Our sales fluctuate from quarter to quarter due to these seasonal consumer demand patterns as well as the effect that the Christmas and holiday seasons have on consumer spending. Net revenues (in millions) by quarter for each of the last three fiscal years were as follows:

 

     2012     2011     2010  

1st Quarter

   $ 450         22   $ 427         22   $ 433         24

2nd Quarter

     492         24     478         24     468         25

3rd Quarter

     512         26     503         26     442         24

4th Quarter

     559         28     545         28     495         27
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 
   $ 2,013         100   $ 1,953         100   $ 1,838         100
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

Retail Concepts

We believe retail stores are an important component of our overall global growth strategy. We operate a combination of our proprietary, multi-brand Boardriders Club stores as well as Quiksilver, Roxy and DC brand stores that feature a broad selection of products from our core brands and, at times, a limited selection of products from our other brands. The proprietary design of our stores demonstrates our history, authenticity and commitment to surfing and other boardriding sports. In addition to our core brand stores, we operate 120 factory outlet stores specifically designed to sell discounted and prior season products in the normal course of business. At times, we may also have a limited number of other brand stores that serve to test different retail strategies than those featured by our core brand stores. In various territories, we also operate Quiksilver and Roxy shops primarily within larger department stores. These “shop in shops” require a much smaller initial investment and are typically smaller than a traditional retail store while having many of the same operational characteristics.

 

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As of October 31, 2012, we owned 605 stores in various markets, detailed as follows by format and segment:

 

Format:

   2012      2011      2010  

Full-price stores

     291         283         277   

Shop-in-shops

     194         155         147   

Factory outlets

     120         109         116   
  

 

 

    

 

 

    

 

 

 

Total

     605         547         540   
  

 

 

    

 

 

    

 

 

 

 

Segment:

   2012      2011      2010  

EMEA

     271         258         272   

APAC

     224         172         162   

Americas

     110         117         106   
  

 

 

    

 

 

    

 

 

 

Total

     605         547         540   
  

 

 

    

 

 

    

 

 

 

In addition to the Company-owned stores noted above, we also had licensed 224 stores to independent retailers in various countries as of October 31, 2012.

Future Season Orders

At the end of November 2012, our backlog totaled $466 million compared to $480 million the year before. Our backlog depends upon a number of factors and fluctuates based upon the timing of trade shows, sales meetings, the length and timing of various international selling seasons, changes in foreign currency exchange rates, decisions regarding brand distribution and product samples, market conditions, and other factors. The timing of shipments also fluctuates from year to year based upon the production of goods, our ability to distribute our products in a timely manner, and customer requests for timing of product delivery. As a consequence, a comparison of backlog from season to season is not necessarily meaningful and may not be indicative of eventual shipments or forecasted revenues.

Segment Information

We have four operating segments consisting of the Americas, EMEA and APAC, each of which sells a full range of our products, as well as Corporate Operations. Our Americas segment, consisting of North, South and Central America, includes revenues primarily from the U.S., Canada, Brazil and Mexico. Our EMEA segment, consisting of Europe, the Middle East and Africa, includes revenues primarily from continental Europe, the United Kingdom, and South Africa. Our APAC segment, consisting of Australia, New Zealand, and Asia, includes revenues primarily from Australia, Japan, New Zealand and Indonesia. Royalties earned from various licensees in other international territories are categorized in Corporate Operations, along with revenues from sourcing services to our licensees. For information regarding the revenues, operating income (loss) and identifiable assets attributable to our operating segments, see note 14 of our consolidated financial statements.

Product Design and Development

Our apparel, footwear, accessories and related products are designed to support the positioning of our brands. Creative design, innovative fabrics and quality of workmanship are emphasized. Our design and merchandising teams create seasonal product ranges for each of our brands. These design groups constantly monitor local and global fashion trends. We believe our most valuable input comes from our own managers, employees, sponsored athletes and independent sales representatives who are actively involved in surfing, skateboarding, snowboarding and other sports in our core market. This connection with our core market continues to be the inspiration for our products and is key to our reputation for distinct and authentic design. Our design centers in Huntington Beach, California and St. Jean de Luz, France develop and share designs, merchandising themes, and concepts that are globally consistent while reflecting local adaptations for differences in geography, culture and taste.

 

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Production and Raw Materials

Our apparel, footwear, accessories and related products are generally sourced from a variety of suppliers principally in China, Korea, India, Vietnam and other parts of the Far East and, to a lesser extent, in Mexico, Turkey, Portugal and other foreign countries. After being imported, many of these products require embellishments such as screenprinting, dyeing, washing or embroidery.

During fiscal 2012, no single supplier of finished goods accounted for more than 8% of our consolidated production. Our largest raw material supplier accounted for 26% of our expenditures for raw materials during fiscal 2012, however, our raw materials expenditures comprised less than 1% of our consolidated production costs. We believe that numerous finished goods and raw materials suppliers are available to provide additional capacity on an as-needed basis and that we enjoy favorable on-going relationships with these suppliers. However, shortages of raw materials or labor pricing pressures can result in delays in deliveries of our products by our suppliers or in increased costs to us.

We retain independent buying agents, primarily in China, India, and Vietnam, to assist us in selecting and overseeing the majority of our independent third party manufacturing and sourcing of finished goods, fabrics, blanks and other products. These agents monitor duties and other trade regulations and perform some of our quality control functions. As of October 31, 2012, we also had approximately 300 employees primarily in China, Vietnam and India, that are involved in sourcing and quality control functions to assist us in monitoring and coordinating our overseas production. By having employees in regions where we source our products, we enhance our ability to monitor factories to ensure their compliance with our standards of manufacturing practices. Our policies require every factory to comply with a code of conduct relating to factory working conditions and the treatment of workers involved in the manufacture of products.

Although we continue to explore new sourcing opportunities for finished goods and raw materials, we believe we have established solid working relationships over many years with vendors who are financially stable and reputable, and who understand our product quality and delivery standards. We research, test and add, as needed, alternate and/or back-up suppliers. However, in the event of any unanticipated substantial disruption of our relationships with, or performance by, key existing suppliers and/or contractors, there could be a short-term adverse effect on our operations.

A portion of our finished goods and raw materials must be committed to and purchased prior to the receipt of customer orders. If we overestimate the demand for a particular product, excess production can generally be distributed in our factory outlet stores or through secondary wholesale distribution channels. If we overestimate the purchase of a particular raw material, it can generally be used in garments for subsequent seasons or in garments for distribution through our factory outlet stores or secondary wholesale distribution channels.

Imports and Import Restrictions

We import finished goods and raw materials for our domestic operations under multilateral and bilateral trade agreements between the U.S. and a number of foreign countries, including India and China. These agreements impose duties on the products that are imported into the U.S. from the affected countries. In Europe, we operate in the European Union (“EU”) within which there are few trade barriers. We also operate under constraints imposed on imports of finished goods and raw materials from outside the EU, including quotas and duty charges.

Promotion and Advertising

The strength of our brands is based upon decades of active involvement in surf, skate and snow sports that have established our legitimacy. We sponsor athletes who use our products in outdoor sports, such as surfing, skateboarding, snowboarding, skiing, BMX and motocross, and produce or sponsor events that showcase these sports. Our brands have become closely identified not only with the underlying sports they represent, but also with the lifestyle that is associated with those who are active in such sports. Accordingly, our advertising efforts are focused on promoting the sports and related lifestyle in addition to advertising specific products. As these sports and lifestyle have grown in popularity globally, the visibility of our brands has increased.

 

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We have relationships with leading athletes worldwide. These include such well-known personalities as Dane Reynolds, Kelly Slater, Ken Block, Rob Dyrdek, Tony Hawk, Torah Bright, and Travis Pastrana, among many others. Along with these athletes, many of whom have achieved world champion status in their individual sports, we sponsor many up-and-coming professionals and amateurs. We believe that these athletes legitimize the performance of our products, form the basis for our advertising and promotional content, maintain an authentic connection with the core users of our products and create a general aspiration to the lifestyle that these athletes represent.

The events and promotions that we sponsor include world-class boardriding events, such as the Quiksilver Pro (in France and Australia), the Quiksilver In Memory of Eddie Aikau, which we believe is the most prestigious event among surfers, and Street League, an indoor skateboarding competition tour in the United States founded by Rob Dyrdek. We also sponsor many women’s events and some of our Quiksilver, DC and Roxy athletes participate in the Summer and Winter X-Games as well as the Olympics. In addition, we sponsor many regional and local events, such as surf camps for beginners and enthusiasts, that reinforce the reputations of our brands as authentic among athletes and non-athletes alike.

Our brand messages are communicated through advertising, social media, editorial content and other programming in both core and mainstream media. Coverage of our sports, athletes and related lifestyle forms the basis of content for core magazines, such as Surfer, Surfing and Transworld Skateboarding. Through our various entertainment initiatives, we bring our lifestyle message to an even broader audience through television, films, social media, online video (such as DC’s Gymkhana series on YouTube), books and co-sponsored events and products.

Trademarks, Licensing Agreements and Patents

Trademarks

We own the “Quiksilver” and “Roxy” trademarks and the related mountain and wave and heart logos in virtually every country in the world. Other trademarks we own include “DCSHOECOUSA”, the “DC Star” logo, “Hawk”, “Lib Tech”, and “Gnu”, among others.

We apply for and register our trademarks throughout the world, mainly for use on apparel, footwear, accessories and related products, as well as for retail services. We believe our trademarks and our other intellectual property are crucial to the successful marketing and sale of our products, and we attempt to vigorously prosecute and defend our rights throughout the world. Because of the success of our trademarks, we also maintain global anti-counterfeiting programs to protect our brands.

Licensing Agreements and Patents

We own rights throughout the world to use and license the Quiksilver and Roxy trademarks in apparel, footwear and related accessory product classifications. We also own rights throughout the world to use and license the DC related trademarks for the footwear, apparel and accessory products that we distribute under such brand. We directly operate all of the global Quiksilver and Roxy businesses with the exception of licensees in certain countries.

We license our Hawk brand in the United States to Kohl’s Stores, Inc., a department store chain with over 1,100 stores. Under the Kohl’s’ license agreement, Kohl’s has the exclusive right to manufacture and sell Hawk branded apparel and some related products in its U.S. stores and through its website. We receive royalties from Kohl’s based upon sales of Hawk branded products. Under the license agreement, we are responsible for product design, and Kohl’s manages sourcing, distribution, marketing and all other functions relating to the Hawk brand. The term of the current license agreement expires in fiscal 2015 and Kohl’s has two remaining five-year extensions, exercisable at its option. We retain the right to manufacture and sell Hawk branded products outside of the United States.

Our patent portfolio contains patents and applications primarily related to wetsuits, skate shoes, watches, boardshorts, snowboards and snowboard boots.

 

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Competition

We face competition from many global lifestyle brands and companies such as Nike, VF Corp., PPR, Vans, Reebok, North Face, Billabong, Hurley, Rip Curl, Volcom, Etnies, and Tom’s Shoes, as well as other regional and local brands that compete with us for market share and floor space with our wholesale customers.

In addition to brand competition, we face distribution channel competition. Our retail stores compete with multi-brand wholesale accounts, as well as vertical retail brands such as Hollister, Gap, and Abercrombie & Fitch, and retail stores of our brand competitors such as Nike stores, Billabong stores, and Vans stores, among others. We also face competition from non-branded retailers such as H&M, Zara and Forever 21.

Our retail stores and e-commerce websites also compete with the e-commerce websites of our wholesale accounts, competitive brands, and online-only competitors such as Amazon, e-Bay, and many other global, regional, and local e-commerce businesses.

Some of our competitors are significantly larger than we are and may have substantially greater resources than we have.

We compete primarily on the basis of successful brand management, product design, product quality, pricing, service and delivery. To remain competitive, we must:

 

 

maintain our reputation for authenticity in the core boardriding and outdoor sports lifestyle markets;

 

 

continue to develop and respond to global fashion and lifestyle trends in our markets;

 

 

create innovative, high quality and stylish products at appropriate price points;

 

 

convey our outdoor sports lifestyle messages to consumers worldwide; and

 

 

source and deliver products on time to our wholesale customers.

Employees

At October 31, 2012, we had approximately 7,000 full-time equivalent employees, consisting of approximately 2,850 in the Americas, approximately 2,500 in EMEA and approximately 1,650 in APAC. None of these employees are represented by trade unions. Certain French employees are represented by workers councils who negotiate with management on behalf of the employees. Management is generally required to share its plans with the workers’ councils, to the extent that these plans affect the represented employees. We have never experienced a work stoppage and consider our working relationships with our employees and the workers’ councils to be good.

Environmental Matters

Some of our facilities and operations have been or are subject to various federal, state and local environmental laws and regulations which govern, among other things, the use and storage of hazardous materials, the storage and disposal of solid and hazardous wastes, the discharge of pollutants into the air, water and land, and the cleanup of contamination. Some of our third party manufacturing partners use, among other things, inks and dyes, and produce related by-products and wastes. We have acquired businesses and properties in the past, and may do so again in the future. In the event we or our predecessors fail or have failed to comply with environmental laws, or cause or have caused a release of hazardous substances or other environmental damage, whether at our sites or elsewhere, we could incur fines, penalties or other liabilities arising out of such noncompliance, releases or environmental damage. Compliance with and liabilities under environmental laws and regulations did not have a significant impact on our capital expenditures, results of operations or competitive position during the last three fiscal years.

Available Information

We file our annual report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, proxy statements and registration statements, and any amendments thereto, with the Securities and Exchange

 

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Commission (SEC). All such filings are available online through the SEC’s website at http://www.sec.gov or on our corporate website at http://www.quiksilverinc.com. We make available free of charge, on or through our corporate website, our annual, quarterly and current reports, and any amendments to those reports, as soon as reasonably practicable after electronically filing such reports with the SEC. In addition, copies of the written charters for the committees of our board of directors, our Corporate Governance Guidelines, our Code of Ethics for Senior Financial Officers and our Code of Business Conduct and Ethics are also available on our website, and can be found under the Investor Relations and Corporate Governance links. Copies are also available in print, free of charge, by writing to Investor Relations, Quiksilver, Inc., 15202 Graham Street, Huntington Beach, California 92649. We may post amendments or waivers of our Code of Ethics for Senior Financial Officers and Code of Business Conduct and Ethics, if any, on our website. This website address is intended to be an inactive textual reference only, and none of the information contained on our website is part of this report or is incorporated in this report by reference.

Item 1A. RISK FACTORS

Cautionary Note Regarding Forward-Looking Statements

This report on Form 10-K contains “forward-looking statements” within the meaning of the safe harbor provisions of the U.S. Private Securities Litigation Reform Act of 1995. Forward-looking statements are often, but not always, identified by words such as: “anticipate,” “intend,” “plan,” “goal,” “seek,” “believe,” “project,” “estimate,” “expect,” “outlook,” “strategy,” “future,” “likely,” “may,” “should,” “could,” “will” and similar references to future periods. Examples of forward-looking statements include, but are not limited to, statements we make regarding:

 

   

Expectations regarding gross margin in our EMEA segment for fiscal 2013;

 

   

Anticipated levels of capital expenditures for fiscal 2013;

 

   

Current or future volatility in certain economies, credit markets and future market conditions; and

 

   

Our belief that we have sufficient liquidity to fund our business operations during the next twelve months.

Forward-looking statements are neither historical facts nor assurances of future performance. Instead, they are based only on our current beliefs, expectations and assumptions regarding the future of our business, future plans and strategies, projections, anticipated events and trends, the economy and other future conditions. Because forward-looking statements relate to the future, they are subject to inherent uncertainties, risks and changes in circumstances that are difficult to predict and many of which are outside of our control. Our actual results and financial condition may differ materially from those indicated in the forward-looking statements. Therefore, you should not rely on any of these forward-looking statements. Important factors that could cause our actual results and financial condition to differ materially from those indicated in the forward-looking statements include, among others, the following:

 

   

our ability to execute our mission and strategies;

 

   

our ability to achieve the financial results that we anticipate;

 

   

our ability to effectively transition our supply chain and certain other business processes to global scope;

 

   

future expenditures for capital projects, including the ongoing implementation of our global enterprise-wide reporting system;

 

   

increases in production costs and raw materials and disruptions in the supply chains for these materials;

 

   

deterioration of global economic conditions and credit and capital markets;

 

   

our ability to continue to maintain our brand image and reputation;

 

   

foreign currency exchange rate fluctuations;

 

   

our ability to remain compliant with our debt covenants;

 

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payments due on contractual commitments and other debt obligations;

 

   

changes in political, social and economic conditions and local regulations, particularly in Europe and Asia;

 

   

the occurrence of hostilities or catastrophic events;

 

   

changes in customer demand; and

 

   

disruptions to our computer systems and software, as well as natural events such as severe weather, fires, floods and earthquakes or man-made or other disruptions of our operating systems, structures or equipment.

Any forward-looking statement made by us in this report is based only on information currently available to us and speaks only as of the date on which it is made. We undertake no obligation to publicly update any forward-looking statement, whether written or oral, that may be made from time to time, whether as a result of new information, future developments or otherwise.

Our business faces numerous risks, many of which are beyond our control. The impact of these risks, as well as other unforeseen risks, could have a material negative impact on our business, financial condition or results of operations and the trading price of our common stock or our senior notes could decline as a result. You should consider these risks before deciding to invest in, or maintain your investment in, our common stock or senior notes.

Unfavorable economic conditions could have a material adverse effect on our business, results of operations and financial condition.

The apparel, footwear and accessories industries have historically been subject to substantial cyclical variations. Our financial performance has been, and may continue to be, negatively affected by unfavorable economic conditions. Continued or further recessionary economic conditions, uncertainty concerning the euro, unemployment in the Euro zone, or other macro economic factors may have an adverse impact on our sales volumes, pricing levels and profitability. As domestic and international economic conditions change, trends in discretionary consumer spending become unpredictable and subject to reductions due to uncertainties about the future. When consumers reduce discretionary spending, purchases of specialty apparel and footwear, like our products, tend to decline which may result in reduced orders from retailers for our products, order cancellations, and/or unanticipated discounts. A continuation of the general reduction in consumer discretionary spending in the domestic and international economies, as well as the impact of tight credit markets on us, our suppliers, other vendors or customers, could have a material adverse effect on our results of operations and financial condition.

The apparel, footwear and accessories industries are each highly competitive, and if we fail to compete effectively, we could lose our market position.

The apparel, footwear and accessories industries are each highly competitive. We compete against a number of domestic and international designers, manufacturers, retailers and distributors of apparel, footwear and accessories. In order to compete effectively, we must (1) maintain the image of our brands and our reputation for authenticity in our core boardriding markets; (2) be flexible and innovative in responding to rapidly changing market demands on the basis of brand image, style, performance and quality; and (3) offer consumers a wide variety of high quality products at competitive prices.

The purchasing decisions of consumers are highly subjective and can be influenced by many factors, such as brand image, marketing programs and product design. A small number of our global competitors enjoy substantial competitive advantages, including greater financial resources for competitive activities, such as sales, marketing, strategic acquisitions and athlete endorsements. The number of our direct competitors and the intensity of competition may increase as we expand into other product lines or as other companies expand into our product lines. Our competitors may enter into business combinations or alliances that strengthen their competitive positions or prevent us from taking advantage of such combinations or alliances. Our competitors also may be able

 

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to respond more quickly and effectively than we can to new or changing opportunities, standards or consumer preferences. In addition, if our sponsored athletes terminate their relationships with us and endorse the products of our competitors, we may be unable to obtain endorsements from other comparable athletes. If we fail to retain our competitive position, our sales could decline significantly which would have a material adverse impact on our results of operations, financial condition and liquidity.

If we are unable to develop innovative and stylish products in response to rapid changes in consumer demands and fashion trends, we may suffer a decline in our revenues and market share.

The apparel, footwear and accessories industries are subject to rapidly changing consumer demands based on fashion trends and performance features. Our success depends, in part, on our ability to anticipate, gauge and respond to these changing consumer preferences in a timely manner while preserving the authenticity and image of our brands and the quality of our products.

As is typical with new products, market acceptance of new designs and products we may introduce is subject to uncertainty. In addition, we generally make decisions regarding product designs months in advance of the time when consumer acceptance can be measured. If trends shift away from our products, or if we misjudge the market for our product lines, we may be faced with significant amounts of unsold inventory or other conditions which could have a material adverse effect on our results of operations and financial condition.

The failure of new product designs or new product lines to gain market acceptance could also adversely affect our business and the image of our brands. Achieving market acceptance for new products may also require substantial marketing efforts and expenditures to expand consumer demand. These requirements could strain our management, financial and operational resources. If we do not continue to develop stylish and innovative products that provide better design and performance attributes than the products of our competitors, or if our future product lines misjudge consumer demands, we may lose consumer loyalty, which could result in a decline in our revenues and market share.

Our business could be harmed if we fail to maintain proper inventory levels.

We maintain an inventory of selected products that we anticipate will be in high demand. We may be unable to sell the products we have ordered in advance from manufacturers or that we have in our inventory. Inventory levels in excess of customer demand may result in inventory write-downs or the sale of excess inventory at discounted or closeout prices. These events could significantly harm our operating results and impair the image of our brands. Conversely, if we underestimate consumer demand for our products or if our manufacturers fail to supply quality products in a timely manner, we may experience inventory shortages, which might result in unfilled orders, negatively impact customer relationships, diminish brand loyalty and result in lost revenues, any of which could harm our business.

Our business could be harmed if we fail to execute our internal plans to transition our supply chain and certain other business processes to global scope.

We are in the process of transitioning our supply chain and certain other business processes to global scope. If our globalization efforts fail to produce planned efficiencies, or the transition is not managed effectively, we may experience excess inventories, inventory shortage, lost revenues, or increased costs. Any business disruption arising from our globalization efforts, or our failure to effectively execute our internal plans for globalization, could adversely impact our results of operations and financial condition.

Our business could be harmed if we are unable to accurately forecast demand for our products.

To ensure adequate inventory supply, we forecast inventory needs and place orders with our manufacturers before firm orders are placed by our customers. If we fail to accurately forecast customer demand, we may experience excess inventory levels or a shortage of product to deliver to our customers. Inventory levels in excess of customer demand may result in inventory write-downs or write-offs and the sale of excess inventory at discounted prices, which would have an adverse effect on gross margin. In addition, if we underestimate the demand for our products,

 

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our manufacturers may not be able to produce products to meet our customer requirements, and this could result in delays in the shipment of our products and our ability to satisfy customer demand, as well as damage to our reputation and customer relationships. A failure to accurately predict the level of demand for our products could cause a decline in revenue and adversely impact our results of operations and financial condition.

The demand for our products is seasonal and is dependent upon several unpredictable factors.

Consumer demand for our products can fluctuate significantly from quarter to quarter and year to year. Consumer demand is dependent on many factors, including customer acceptance of our product designs, fashion trends, economic conditions, changes in consumer spending, weather patterns during peak selling periods, and numerous other factors beyond our control. The seasonality of our business and/or misjudgment in consumer demands could have a material adverse effect on our financial condition and results of operations.

Our industry is subject to pricing pressures that may adversely impact our financial performance.

We source many of our products offshore because manufacturing costs, particularly labor costs, are generally less than in the U.S. Many of our competitors also source their products offshore, possibly at lower costs than we can, and they may use these cost savings to reduce prices. To remain competitive, we may be forced to adjust our prices from time to time in response to these pricing pressures. As a result, our financial performance may be negatively affected if we are forced to reduce our prices while not able to reduce production costs or our production costs increase and we are unable to proportionately increase our prices. Any inability on our part to effectively respond to changing prices and sourcing costs could have a material adverse impact on our results of operations, financial condition and liquidity.

Fluctuations in the cost and availability of raw materials, labor, and transportation could cause manufacturing delays and increase our costs.

The prices of the fabrics used to manufacture our products depend largely on the market prices for the raw materials used to produce them, particularly cotton. The price and availability of such raw materials may fluctuate significantly, depending on many factors, including crop yields and weather patterns. In addition, the cost of labor at many of our third-party manufacturers has been increasing significantly with the growth of the middle class in certain developing countries. The cost of logistics and transportation has been increasing as well, in large part due to the increase in the price of oil. Any fluctuations in the cost and availability of any of our raw materials or other sourcing costs could have a material adverse effect on our gross margins and our ability to meet consumer demands.

Factors affecting international commerce and our international operations may seriously harm our financial condition.

We generate the majority of our revenues from outside of the United States, and we anticipate that revenue from our international operations could account for an increasingly larger portion of our revenue in the future. Our international operations are directly related to, and dependent on, the volume of international trade and foreign market conditions. International commerce and our international operations are subject to many risks, including:

 

   

recessions in foreign economies;

 

   

fluctuations in foreign currency exchange rates;

 

   

the adoption and expansion of trade restrictions;

 

   

limitations on repatriation of earnings;

 

   

difficulties in protecting our intellectual property or enforcing our intellectual property rights under the laws of other countries;

 

   

longer receivables collection periods and greater difficulty in collecting accounts receivable;

 

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social, political and economic instability;

 

   

unexpected changes in regulatory requirements;

 

   

fluctuations in foreign tax rates;

 

   

tariffs and other trade barriers; and

 

   

U.S. government licensing requirements for exports.

The occurrence or consequences of any of these risks may restrict our ability to operate in the affected regions and decrease the profitability of our international operations, which may harm our financial condition.

We have established, and may continue to establish, joint ventures in various foreign territories with independent third party business partners to distribute and sell Quiksilver, Roxy, DC and other branded products in such territories. These joint ventures are subject to substantial risks and liabilities associated with their operations, as well as the risk that our relationships with our joint venture partners do not succeed in the manner that we anticipate. If our joint venture operations, or our relationships with our joint venture partners, are not successful, our results of operations and financial condition may be adversely affected.

In addition, as we continue to expand our overseas operations, we are subject to certain U.S. laws, including the Foreign Corrupt Practices Act, in addition to the laws of the foreign countries in which we operate. We must use all commercially reasonable efforts to ensure our employees comply with these laws. If any of our overseas operations, or our employees or agents, violates such laws, we could become subject to sanctions or other penalties that could negatively affect our reputation, business and operating results.

Uncertainty of changing international trade regulations and quotas on imports of textiles and apparel may adversely affect our business.

Quotas, duties or tariffs may have a material adverse effect on our business, financial condition and results of operations. We currently import raw materials and/or finished garments into the majority of countries in which we sell our products. Substantially all of our import operations are subject to customs duties.

In addition, the countries in which our products are manufactured or into which they are imported may from time to time impose new quotas, duties, tariffs, requirements as to where raw materials must be purchased, new workplace regulations or other restrictions on our imports, or otherwise adversely modify existing restrictions. Adverse changes in these costs and restrictions could harm our business.

We rely on third-party manufacturers and problems with, or loss of, our suppliers or raw materials could harm our business and results of operations.

Substantially all of our products are produced by independent manufacturers. We face the risk that these third-party manufacturers with whom we contract to produce our products may not produce and deliver our products on a timely basis, or at all. We cannot be certain that we will not experience operational difficulties with our manufacturers, such as reductions in the availability of production capacity, errors in complying with product specifications and regulatory and customer requirements, insufficient quality control, failures to meet production deadlines, increases in materials and manufacturing costs or other business interruptions or failures due to deteriorating economies. The failure of any manufacturer to perform to our expectations could result in supply shortages or delays for certain products and harm our business. Our business may also be harmed by material increases to our cost of goods as a result of increasing labor costs, which manufacturers have recently faced.

The capacity of our manufacturers to manufacture our products also is dependent, in part, upon the availability of raw materials. Our manufacturers may experience shortages of raw materials, which could result in delays in deliveries of our products by our manufacturers or increased costs to us. Any shortage of raw materials or inability of a manufacturer to manufacture or ship our products in a timely manner, or at all, could impair our ability to ship orders of our products in a cost-efficient, timely manner and could cause us to miss the delivery requirements of our customers. As a result, we could experience cancellations of orders, refusals to accept deliveries or reductions in our prices and margins, any of which could harm our financial performance and results of operations.

 

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Labor disruptions at our suppliers, manufacturers, common carriers or ports may adversely affect our business.

Our business depends on our ability to source and distribute products in a timely manner. As a result, we rely on the timely and free flow of goods through open and operational ports worldwide and on a consistent basis from our suppliers and manufacturers. Labor disputes at various ports, our common carriers, or at our suppliers or manufacturers create significant risks for our business, particularly if these disputes result in work slowdowns, lockouts, strikes or other disruptions during our peak importing or manufacturing seasons, and could have an adverse effect on our business, potentially resulting in cancelled orders by customers, unanticipated inventory accumulation or shortages and an adverse impact on our results of operations and financial condition.

Our business could suffer if we lose key management or are unable to attract and retain the talent required for our business.

Our performance is significantly impacted by the efforts and abilities of our senior management team. If we lose the services of one or more of our key executives, we may not be able to successfully manage our business or achieve our business objectives. If we are unable to recruit and retain qualified management personnel in a timely manner our results of operations and financial condition could suffer.

Our debt obligations could limit our flexibility in managing our business and expose us to certain risks.

Our degree of leverage may have negative consequences to us, including the following:

 

   

we may have difficulty satisfying our obligations with respect to our indebtedness, and, if we fail to comply with these requirements, an event of default could result;

 

   

we may be required to dedicate a substantial portion of our cash flow from operations to required interest and, where applicable, principal payments on indebtedness, thereby reducing the availability of cash flow for working capital, capital expenditures and other general corporate activities;

 

   

covenants relating to our indebtedness may limit our ability to obtain additional financing for working capital, capital expenditures and other general corporate activities;

 

   

we may be subject to credit reductions and other changes in our business relationships with our suppliers, vendors and customers if they perceive that we would be unable to pay our debts to them in a timely manner;

 

   

we have short term lines of credit in our EMEA and APAC segments that are subject to periodic review and renewal, and we may be unable to extend these lines at terms favorable to us, requiring the use of cash on hand or available credit; and

 

   

we may be placed at a competitive disadvantage against less leveraged competitors.

We lease retail stores, office space, and distribution center facilities under operating leases, and if we terminate such leases prior to their contractual expiration, we could be liable for substantial payments for remaining lease liabilities.

We operate in excess of 600 retail stores, as well as various offices, showrooms, and distribution centers, under non-cancelable operating leases. We have, at times, closed certain underperforming stores prior to the termination of their related lease agreements. As a result, we have incurred mutually negotiated lease termination costs with landlords. We may close additional underperforming stores, or other leased facilities, prior to the termination of their related lease agreements in the future. Consequently, we may incur substantial lease termination payments that could decrease our profitability, reduce our cash balances or amounts available under credit facilities, and thereby have an adverse effect on our business, financial condition, and results of operations.

Our success is dependent on our ability to protect our worldwide intellectual property rights, and our inability to enforce these rights could harm our business.

Our success depends to a significant degree upon our ability to protect and preserve our intellectual property, including copyrights, trademarks, patents, service marks, trade dress, trade secrets and similar intellectual

 

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property. We rely on the intellectual property, patent, trademark and copyright laws of the United States and other countries to protect our proprietary rights. However, we may be unable to prevent third parties from using our intellectual property without our authorization, particularly in those countries where the laws do not protect our proprietary rights as fully as in the United States. The use of our intellectual property or similar intellectual property by others could reduce or eliminate any competitive advantage we have developed, causing us to lose sales or otherwise harm our business. From time to time, we resort to litigation to protect these rights, and these proceedings can be burdensome and costly and we may not prevail.

We have obtained some U.S. and foreign trademarks, patents and service mark registrations, and have applied for additional ones, but cannot guarantee that any of our pending applications will be approved by the applicable governmental authorities. The loss of trademarks, patents and service marks, or the loss of the exclusive use of our trademarks, patents and service marks, could have a material adverse effect on our business, financial condition and results of operations. Accordingly, we devote substantial resources to the establishment and protection of our trademarks, patents and service marks on a worldwide basis and continue to evaluate the registration of additional trademarks, patents and service marks, as appropriate. There can be no assurance that our actions taken to establish and protect our trademarks, patents and service marks will be adequate to prevent imitation of our products by others or to prevent others from seeking to block sales of our products as violations of their trademark, patent or other proprietary rights.

We may be subject to claims that our products have infringed upon the intellectual property rights of others, which may cause us to incur unexpected costs or prevent us from selling our products.

We cannot be certain that our products do not and will not infringe the intellectual property rights of others. We may be subject to legal proceedings and claims in the ordinary course of our business, including claims of alleged infringement of the intellectual property rights of third parties by us or our customers in connection with their use of our products. Any such claims, whether or not meritorious, could result in costly litigation and divert the efforts of our personnel. Moreover, should we be found liable for infringement, we may be required to enter into licensing agreements (if available on acceptable terms or at all) or to pay damages and cease making or selling certain products. Moreover, we may need to redesign, discontinue or rename some of our products to avoid future infringement liability. Any of the foregoing could cause us to incur significant costs and prevent us from manufacturing or selling our products.

If we are unable to maintain our endorsements by professional athletes, our ability to market and sell our products may be harmed.

A key element of our marketing strategy has been to obtain endorsements from prominent athletes, which contribute to the authenticity and image of our brands. We believe that this strategy has been an effective means of gaining brand exposure worldwide and creating broad appeal for our products. We cannot be certain that we will be able to maintain our existing relationships with these individuals in the future or that we will be able to attract new athletes to endorse our products. We also are subject to risks related to the selection of athletes whom we choose to endorse our products. We may select athletes who are unable to perform at expected levels or who are not sufficiently marketable. In addition, negative publicity concerning any of our athletes could harm our brand and adversely impact our business. If we are unable in the future to secure prominent athletes and arrange athlete endorsements of our products on terms we deem to be reasonable, we may be required to modify our marketing platform and to rely more heavily on other forms of marketing and promotion, which may not prove to be effective. In any event, our inability to obtain endorsements from professional athletes could adversely affect our ability to market and sell our products, resulting in loss of revenues and a loss of profitability.

Difficulties in implementing our new global Enterprise Resource Planning system and other technologies could impact our ability to design, produce and ship our products on a timely basis.

We are in the process of implementing the SAP Apparel and Footwear Solution in addition to certain peripheral technologies as our core operational and financial system (together, “ERP”). The ongoing implementation of the

 

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ERP is a key part of our continuing efforts to manage our business more effectively by eliminating redundancies and enhancing our overall cost structure and margin performance. Difficulties in implementing SAP and integrating peripheral technologies to this new ERP could impact our ability to design, produce and ship our products on a timely basis.

We rely significantly on information technology and any failure, inadequacy, interruption or security lapse of that technology could harm our ability to effectively operate our business.

Our ability to effectively manage and maintain our supply chain, and to ship products to customers and invoice them on a timely basis depends significantly on several key information systems. The failure of these systems to operate effectively or to integrate with other systems, or a breach in security of these systems could cause delays in product fulfillment and reduced efficiency of our operations, and it could require significant capital investments to remediate any such failure, problem or breach.

In addition, hackers and data thieves are increasingly sophisticated and operate large scale and complex automated attacks. Despite security measures that we and our third party vendors have in place, any breach of our or our third party service providers’ networks may result in the loss of valuable business data, our customers’ or employees’ personal information or a disruption of our business, which could give rise to unwanted media attention, damage our customer relationships and reputation and result in lost sales, fines or lawsuits. In addition, we must comply with increasingly complex regulatory standards enacted to protect this business and personal data. Any inability to maintain compliance with these regulatory standards could expose us to risks of litigation and liability, and adversely impact our results of operations and financial condition.

Changes in foreign currency exchange rates could affect our reported revenues and costs.

We are exposed to gains and losses resulting from fluctuations in foreign currency exchange rates relating to certain sales, royalty income, and product purchases of our international subsidiaries that are denominated in currencies other than their functional currencies. We are also exposed to foreign currency gains and losses resulting from U.S. transactions that are not denominated in U.S. dollars and to the current volatility and uncertainty concerning the euro. If we are unsuccessful in hedging these potential losses, our operating results could be negatively impacted and our cash flows could be significantly reduced. In some cases, as part of our risk management strategies, we may choose not to hedge such risks. If we misjudge these risks, there could be a material adverse effect on our operating results and financial position.

Furthermore, we are exposed to gains and losses resulting from the effect that fluctuations in foreign currency exchange rates have on the reported results in our consolidated financial statements due to the translation of the statements of operations and balance sheets of our international subsidiaries into U.S. dollars. We may (but generally do not) use foreign currency exchange contracts to hedge the profit and loss effects of this translation effect because such exposures are generally non-cash in nature and because accounting rules would require us to mark these contracts to fair value in the statement of operations at the end of each financial reporting period. We translate our revenues and expenses at average exchange rates during the period. As a result, the reported revenues and expenses of our international subsidiaries would decrease if the U.S. dollar increased in value in relation to other currencies, including the euro, Australian dollar or Japanese yen.

Future sales of our common stock in the public market, or the issuance of other equity securities, may adversely affect the market price of our common stock and the value of our senior notes.

Sales of a substantial number of shares of our common stock or other equity-related securities in the public market could depress the market price of our common stock, senior notes, or both. We cannot predict the effect that future sales of our common stock or other equity-related securities, including the exercise and/or sale of the equity securities held by entities affiliated with Rhône Capital LLC, would have on the market price of our common stock or the value of our senior notes.

 

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Employment related matters may affect our profitability.

As of October 31, 2012, we had no unionized employees, but certain French employees are represented by workers’ councils. As we have little control over union activities, we could face difficulties in the future should our workforce become unionized. There can be no assurance that we will not experience work stoppages or other labor problems in the future with our non-unionized employees or employees represented by workers’ councils.

The effects of war, acts of terrorism, natural disasters or other unforeseen wide-scale events could have a material adverse effect on our operating results and financial condition.

The continued threat of terrorism and associated heightened security measures and military actions in response to acts of terrorism has disrupted commerce and has intensified uncertainties in the U.S. and international economies. Any further acts of terrorism, a future war, or a widespread natural or other disaster, such as the earthquake and resulting tsunami and radioactivity issues in Japan, may disrupt commerce, undermine consumer confidence and lead to a further downturn in the U.S. or international economies, which could negatively impact our revenues. Furthermore, an act of terrorism or war, or the threat thereof, or any natural or other disaster that results in unforeseen interruptions of commerce, could negatively impact our business by interfering with our ability to obtain products from our manufacturers.

Failure to maintain adequate financial and management processes and controls could lead to errors in our financial reporting and could adversely affect our business.

We are required to document and test our internal controls over financial reporting pursuant to Section 404 of the Sarbanes-Oxley Act of 2002 (“SOX 404”). As a result, we have incurred and expect to continue to incur substantial expenses to comply with SOX 404 requirements. If, for any reason, our SOX 404 compliance efforts fail to result in an unqualified opinion regarding the effectiveness of our internal controls, we could be subject to regulatory scrutiny and a loss of public confidence, which could have a material adverse effect on our business, stock price and ability to attract credit. In addition, if we do not maintain adequate financial and management personnel, processes and controls, we may not be able to: (1) accurately report our financial performance on a timely basis, which could cause a decline in our stock price and adversely affect our ability to raise capital, our results of operations and our financial condition; and (2) appropriately manage or control our operations, which could adversely impact our results of operations.

If our goodwill becomes impaired, we may be required to record a significant charge to our earnings.

We may be required to record future impairments of goodwill to the extent the fair value of any of our reporting units is less than its carrying value. As of October 31, 2012, the fair value of the Americas reporting unit substantially exceeded its carrying value. The fair values of the EMEA and APAC reporting units exceeded their carrying values by 6% and 5%, respectively. Our estimates of fair value are based on assumptions about future cash flows of each reporting unit, discount rates applied to these cash flows and current market estimates of value. Based on the uncertainty of future revenue growth rates, gross profit performance, and other assumptions used to estimate goodwill recoverability, future reductions in our expected cash flows could cause a material non-cash impairment charge of goodwill, which could have a material adverse effect on our results of operations and financial condition.

Item 1B. UNRESOLVED STAFF COMMENTS

None.

 

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Item 2. PROPERTIES

As of October 31, 2012, our principal facilities in excess of 40,000 square feet were as follows:

 

Location

  

Principal Use

   Square
Footage
     Lease
Expiration
 

Huntington Beach, CA

   Offices      223,000         2029

Huntington Beach, CA

   Offices      120,000         2034

Huntington Beach, CA

   Offices      102,000         2023

Mira Loma, CA

   Distribution center      683,000         2027

St. Jean de Luz, France

   Offices      151,000         N/A ** 

St. Jean de Luz, France

   Distribution center      127,000         N/A ** 

Rives, France

   Distribution center      206,000         2016   

Torquay, Australia

   Offices      54,000         2024

Geelong, Australia

   Distribution center      81,000         2038

Geelong, Australia

   Distribution center      134,000         2039

 

* Includes extension periods exercisable at our option.

 

** These locations are owned.

As of October 31, 2012, we operated 110 retail stores in the Americas, 271 retail stores in EMEA, and 224 retail stores in APAC on leased premises. The leases for our facilities, including retail stores, required aggregate annual rentals of approximately $135 million in fiscal 2012. We anticipate that we will be able to extend those leases that expire in the near future on terms satisfactory to us, or, if necessary, locate substitute facilities on acceptable terms. We believe that our corporate, distribution and retail leased facilities are suitable and adequate to meet our current needs.

Item 3. LEGAL PROCEEDINGS

As part of our global operations, we may be involved in legal claims involving trademarks, intellectual property, licensing, employment matters, compliance, contracts and other matters incidental to our business. We believe the resolution of any such matter currently threatened or pending will not have a material adverse effect on our financial condition, results of operations or liquidity.

Item 4. MINE SAFETY DISCLOSURES

Not applicable.

 

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PART II

Item 5. MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES

Our common stock trades on the New York Stock Exchange (“NYSE”) under the symbol “ZQK.” The high and low sales prices of our common stock, as reported by the NYSE for the two most recent fiscal years, are set forth below.

 

     High      Low  

Fiscal 2012

     

4th quarter ended October 31, 2012

   $ 3.72       $ 2.60   

3rd quarter ended July 31, 2012

     3.53         2.09   

2nd quarter ended April 30, 2012

     4.89         3.38   

1st quarter ended January 31, 2012

     4.48         2.70   

Fiscal 2011

     

4th quarter ended October 31, 2011

   $ 5.32       $ 2.61   

3rd quarter ended July 31, 2011

     5.57         4.12   

2nd quarter ended April 30, 2011

     4.79         4.05   

1st quarter ended January 31, 2011

     5.69         3.88   

We have historically reinvested our earnings in our business and have never paid a cash dividend. No change in this practice is currently being considered. Any payment of cash dividends in the future will be determined by our Board of Directors, considering conditions existing at that time, including our earnings, financial requirements and condition, opportunities for reinvesting earnings, business conditions and other factors. In addition, under the indentures related to our senior notes and under our other debt agreements, there are limits on the dividends and other payments that certain of our subsidiaries may pay to us and we must obtain prior consent to pay dividends to our stockholders above a pre-determined amount.

On December 31, 2012, there were 871 holders of record of our common stock and an estimated 31,300 beneficial stockholders.

Item 6. SELECTED FINANCIAL DATA

The statements of operations and balance sheet data shown below were derived from our consolidated financial statements. Our consolidated financial statements as of October 31, 2012 and 2011 and for each of the three years in the period ended October 31, 2012, included herein, have been audited by Deloitte & Touche LLP, our independent registered public accounting firm. This selected financial data should be read together with our consolidated financial statements and related notes, as well as the discussion under the caption “Management’s Discussion and Analysis of Financial Condition and Results of Operations.”

 

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    Year Ended October 31,  
Amounts in thousands, except ratios and per share data   2012(1)     2011(1)     2010(1)(2)     2009(1)(2)     2008(1)(2)  

Statements of Operations Data:

         

Revenues, net

  $ 2,013,239      $ 1,953,061      $ 1,837,620      $ 1,977,526      $ 2,264,636   

(Loss)/income before provision for income taxes

    (2,186     (32,185     15,333        (3,622     99,261   

(Loss)/income from continuing operations(3)

    (10,756     (21,258     (11,514     (73,215     65,544   

Income/(loss) from discontinued operations(3)

                  1,830        (118,827     (291,809

Net loss(3)

    (10,756     (21,258     (9,684     (192,042     (226,265

(Loss)/income per share from continuing operations(3)

    (0.07     (0.13     (0.09     (0.58     0.52   

Income/(loss) per share from discontinued operations(3)

                  0.01        (0.94     (2.32

Net loss per share(3)

    (0.07     (0.13     (0.07     (1.51     (1.80

(Loss)/income per share from continuing operations, assuming dilution(3)

    (0.07     (0.13     (0.09     (0.58     0.51   

Income/(loss) per share from discontinued operations, assuming dilution(3)

                  0.01        (0.94     (2.25

Net loss per share, assuming dilution(3)

    (0.07     (0.13     (0.07     (1.51     (1.75

Weighted average common shares outstanding(4)

    164,245        162,430        135,334        127,042        125,975   

Weighted average common shares outstanding, assuming dilution(4)

    164,245        162,430        135,334        127,042        129,485   

Balance Sheet Data:

         

Total assets

  $ 1,718,240      $ 1,764,223      $ 1,696,121      $ 1,852,608      $ 2,170,265   

Working capital

    549,253        581,361        537,439        561,697        631,315   

Lines of credit

    18,147        18,335        22,586        32,592        238,317   

Long-term debt

    739,822        729,351        706,187        1,006,661        822,001   

Stockholders’ equity(3)

    583,310        610,098        610,368        456,595        599,966   

Other Data:

         

Adjusted EBITDA(5)

  $ 140,642      $ 194,281      $ 204,377      $ 131,532      $ 278,945   

Current ratio

    2.5        2.6        2.6        2.3        1.9   

Return on average stockholders’ equity(6)

    (1.8 )%      (3.5 )%      (2.2 )%      (13.9 )%      8.8

 

 

(1) 

Fiscal 2012, 2010 and 2009 include retail store asset impairments of $7 million, $12 million and $11 million, respectively. Fiscal 2011 and 2008 include goodwill and retail store asset impairments of $86 million and $66 million, respectively.

 

(2) 

Fiscal 2010, 2009, and 2008 reflect the operations of Rossignol and Cleveland Golf as discontinued operations.

 

(3) 

Attributable to Quiksilver, Inc.

 

(4) 

The significant increase in weighted average common shares outstanding and weighted average common shares outstanding, assuming dilution from fiscal 2009 to fiscal 2010 and from fiscal 2010 to fiscal 2011 is primarily due to the debt-for-equity exchange that occurred in August 2010, in which we exchanged $140 million of outstanding debt for 31.1 million shares, which represents an exchange price of $4.50 per share. See note 7 of our consolidated financial statements for further details.

 

(5) 

Adjusted EBITDA is defined as net (loss)/income from continuing operations attributable to Quiksilver, Inc. before (i) interest expense, (ii) provision/(benefit) for income taxes, (iii) depreciation and amortization, (iv) non-cash stock-based compensation expense and (v) asset impairments. Adjusted EBITDA is not defined under generally accepted accounting principles (“GAAP”), and it may not be comparable to similarly titled measures reported by other companies. We use Adjusted EBITDA, along with other GAAP measures, as a

 

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  measure of profitability because Adjusted EBITDA helps us to compare our performance on a consistent basis by removing from our operating results the impact of our capital structure, the effect of operating in different tax jurisdictions, the impact of our asset base, which can differ depending on the book value of assets, the accounting methods used to compute depreciation and amortization, the existence or timing of asset impairments and the effect of non-cash stock-based compensation expense. We believe EBITDA is useful to investors as it is a widely used measure of performance and the adjustments we make to EBITDA provide further clarity on our profitability. We remove the effect of non-cash stock-based compensation from our earnings which can vary based on share price, share price volatility and the expected life of the equity instruments we grant. In addition, this stock-based compensation expense does not result in cash payments by us. We remove the effect of asset impairments from Adjusted EBITDA for the same reason that we remove depreciation and amortization as it is part of the impact of our asset base. Adjusted EBITDA has limitations as a profitability measure in that it does not include the interest expense on our debts, our provisions for income taxes, the effect of our expenditures for capital assets and certain intangible assets, the effect of non-cash stock-based compensation expense and the effect of asset impairments. The following is a reconciliation of (loss)/income from continuing operations attributable to Quiksilver, Inc. to Adjusted EBITDA:

 

     Year Ended October 31,  
in thousands    2012     2011     2010     2009     2008  

(Loss)/income from continuing operations attributable to Quiksilver, Inc.

   $ (10,756   $ (21,258   $ (11,514   $ (73,215   $ 65,544   

Provision/(benefit) for income taxes

     7,557        (14,315     23,433        66,667        33,027   

Interest expense, net

     60,823        73,808        114,109        63,924        45,327   

Depreciation and amortization

     53,232        55,259        53,861        55,004        57,231   

Non-cash stock-based

compensation expense

     22,552        14,414        12,831        8,415        12,019   

Non-cash asset impairments

     7,234        86,373        11,657        10,737        65,797   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Adjusted EBITDA

   $ 140,642      $ 194,281      $ 204,377      $ 131,532      $ 278,945   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

 

(6) 

Computed based on (loss)/income from continuing operations attributable to Quiksilver, Inc. divided by the average of beginning and ending Quiksilver, Inc. stockholders’ equity.

Item 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following Management’s Discussion and Analysis of Financial Condition and Results of Operations (“MD&A”) should be read in conjunction with our Consolidated Financial Statements and Notes thereto included elsewhere in this Annual Report on Form 10-K. The MD&A contains forward-looking statements that involve risks and uncertainties. Our actual results could differ materially from those anticipated in these forward-looking statements as a result of certain factors, including those set forth under “Risk Factors” within Item 1A.

Overview

We began operations in 1976 as a California company making boardshorts for surfers in the United States under a license agreement with the Quiksilver brand founders in Australia. We reincorporated in Delaware and went public in 1986 and, in subsequent years, acquired the worldwide licenses and trademarks that created the global company that we are today. Our business is rooted in the strong heritage and authenticity of our core brands, Quiksilver, Roxy and DC, each of which caters to the casual, outdoor lifestyle associated with surfing, skateboarding, snowboarding, BMX and motocross, among other activities. Today, our products are sold throughout the world, primarily in surf shops, skate shops, snow shops and specialty stores. We operate in the outdoor market of the sporting goods industry in which we design, develop and distribute branded apparel, footwear, accessories and related products. We have four operating segments consisting of the Americas, EMEA and APAC, each of which sells a full range of our products, as well as Corporate Operations. Our Americas segment includes revenues primarily from the United States, Canada, Brazil and Mexico. Our EMEA segment includes revenues primarily from continential Europe, the United Kingdom, and South Africa. Our APAC segment includes revenues primarily from

 

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Australia, Japan, New Zealand and Indonesia. Royalties earned from various licensees in other international territories are categorized in Corporate Operations along with revenues from sourcing services for our licensees.

Results of Operations

The following table sets forth selected statement of operations data expressed as a percentage of net revenues for the fiscal years indicated. The discussion that follows should be read in conjunction with the table:

 

     Year Ended October 31,  
     2012      2011      2010  

Statements of Operations data

        

Revenues, net

     100.0      100.0      100.0

Gross margin

     48.7         52.4         52.6   

Selling, general and administrative expense

     45.5         45.9         45.3   

Asset impairments

     0.4         4.4         0.6   
  

 

 

    

 

 

    

 

 

 

Operating income

     2.8         2.1         6.7   

Interest expense

     3.0         3.8         6.2   

Foreign currency and other income

     (0.1      (0.1      (0.3
  

 

 

    

 

 

    

 

 

 

(Loss)/income before provision for income taxes

     (0.1 )%       (1.6 )%       0.8

Other data

        

Adjusted EBITDA (1)

     7.0      9.9      11.1
  

 

 

    

 

 

    

 

 

 

 

(1) 

For a definition of Adjusted EBITDA and a reconciliation of (loss)/income attributable to Quiksilver, Inc. to Adjusted EBITDA, see footnote (5) to the table under Item 6. Selected Financial Data.

Fiscal 2012 Compared to Fiscal 2011

Revenues, net

Revenues, net – By Segment

The following table presents consolidated net revenues (in millions) by segment in historical currency for each of fiscal 2012 and 2011:

 

     Americas     EMEA     APAC     Corporate        Total  

Fiscal 2012

   $ 992      $ 711      $ 307      $ 3         $ 2,013   

Fiscal 2011

     914        761        272        5           1,953   

% increase/(decrease)

     8     (7 %)      13          3

Our net revenues for fiscal 2012 were $2.01 billion, up 3% from $1.95 billion in fiscal 2011. The $60 million increase in net revenues in fiscal 2012 was driven by a $78 million increase in our Americas segment and a $35 million increase in our APAC segment, partially offset by a $50 million decline in our EMEA segment. The decline in net revenues in our EMEA segment in fiscal 2012 was almost entirely due to unfavorable changes in foreign currency exchange rates between fiscal 2012 and fiscal 2011. Absent changes in foreign currency exchange rates, EMEA net revenues increased just under 1% in fiscal 2012. A more detailed discussion of net revenue changes by segment, brand and channel as adjusted for changes in foreign currency exchange rates (i.e., in constant currency) is set forth below.

We use constant currency measurements to better understand actual growth rates in our foreign operations. Constant currency measurements remove the impact of foreign currency exchange rate fluctuations from period to period. Constant currency is calculated by taking the ending foreign currency exchange rate (for balance sheet items) or the average foreign currency exchange rate (for income statement items) used in translation for the current period and applying that same rate to the prior period.

 

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The following table presents consolidated net revenues (in millions) by segment in constant currency for each of fiscal 2012 and 2011:

 

     Americas     EMEA     APAC     Corporate      Total  

Fiscal 2012

   $ 992      $ 711      $ 307      $ 3       $ 2,013   

Fiscal 2011

     904        706        273        5         1,888   

% increase

     10     1     12        7

In constant currency, net revenues increased 7% compared to the prior year. Net revenues in the Americas segment increased 10% versus the prior year due to low double-digit percentage growth across all three core brands (Quiksilver, Roxy and DC) and growth across all three distribution channels, particularly within the wholesale channel. Net revenues in the EMEA segment increased 1% versus the prior year with low double-digit percentage growth in DC revenues largely offset by high-single digit percentage declines in Quiksilver and Roxy revenues. Growth in the e-commerce and retail channels within EMEA were offset by a decline in the wholesale channel. Net revenues declined a combined 15% in constant currency within the wholesale and retail channels in the United Kingdom and Spain due to the negative economic circumstances in those countries. These declines were offset by significant e-commerce net revenue growth, partially due to an acquisition in the United Kingdom, as well as net revenue growth in Russia and Germany. Net revenues in the APAC segment increased 12% due to strong growth across all three core brands as well as in the wholesale and retail distribution channels. Net revenue growth in emerging markets, particularly Indonesia and South Korea, contributed significantly to the APAC net revenue growth.

Revenues, net – By Brand

Net revenues by brand (in millions), in both historical and constant currency, for each of fiscal 2012 and 2011 were as follows:

Net Revenue by Brand in Historical Currency (as reported):

 

     Quiksilver     DC     Roxy     Other     Total  

Fiscal 2012

   $ 794      $ 594      $ 524      $ 101      $ 2013   

Fiscal 2011

     806        545        519        83        1,953   

% (decrease)/increase

     (1 )%      9     1     21     3

Net Revenue by Brand in Constant Currency (current year exchange rates):

 

     Quiksilver     DC     Roxy     Other     Total  

Fiscal 2012

   $ 794      $ 594      $ 524      $ 101      $ 2013   

Fiscal 2011

     773        530        503        82        1,888   

% increase

     3     12     4     24     7

Quiksilver brand net revenues decreased 1% on an as reported basis due to a significant decline in EMEA wholesale revenues. In constant currency, Quiksilver brand net revenues increased 3% with low double-digit percentage growth in the Americas and APAC segments partially offset by a high single-digit percentage decrease in the EMEA segment. By channel, Quiksilver net revenues increased in both the retail and e-commerce channels and decreased slightly in the wholesale channel. DC brand net revenues increased 9% on an as reported basis and 12% in constant currency with double-digit percentage growth across all regional segments and distribution channels. Roxy brand net revenues increased 1% on an as reported basis and 4% in constant currency with strong growth in the Americas and APAC segments partially offset by a mid-single digit percentage decrease in the EMEA segment. Roxy net revenues grew in each distribution channel during fiscal 2012. Net revenues from our other brands increased over 20% due to expanded distribution of these much smaller brands.

 

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Revenues, net – By Channel

Net revenues by channel (in millions), in both historical and constant currency, for each of fiscal 2012 and 2011 were as follows:

Net Revenue by Channel in Historical Currency (as reported):

 

     Wholesale     Retail     E-com     Total  

Fiscal 2012

   $ 1,472      $ 454      $ 87      $ 2013   

Fiscal 2011

     1,480        439        34        1,953   

% (decrease)/increase

     (0 )%      3     155     3

Net Revenue by Channel in Constant Currency (current year exchange rates):

 

     Wholesale     Retail     E-com     Total  

Fiscal 2012

   $ 1,472      $ 454      $ 87      $ 2013   

Fiscal 2011

     1,429        425        34        1,888   

% increase

     3     7     155     7

Wholesale net revenues decreased slightly on an as reported basis and increased 3% in constant currency in fiscal 2012 versus the prior year. Wholesale net revenues in our Americas and APAC segments increased in the high single-digits on a percentage basis versus the prior year, partially offset by a high single-digit percentage decrease in our EMEA segment. Significant economic difficulties in Europe have resulted in the loss of many small accounts and increased discounting in our EMEA segment. Retail net revenues increased 3% on an as reported basis and 7% in constant currency versus the prior year. Retail net revenues increased in all three regional segments when measured in constant currency. EMEA retail decreased slightly on an as reported basis due to unfavorable changes in foreign currency exchange rates. E-commerce net revenues increased over 150% versus the prior year due to significant growth in each of our online platforms, particularly within the EMEA segment through both organic and non-organic growth.

Gross Profit

Gross profit decreased to $980 million in fiscal 2012 from $1.02 billion in fiscal 2011. Gross margin decreased to 48.7% of net revenues in fiscal 2012 from 52.4% in the prior year, a decrease of 370 basis points. We experienced gross margin decreases across all three of our regional segments during fiscal 2012, primarily due to increased clearance sales at lower margins within our wholesale channel compared to last year (240 basis points), increased discounting within our retail channel (80 basis points), and the impact of changes in the geographical composition of our net revenues. We experienced net revenue growth in our Americas and APAC segments, but experienced a net revenue decrease in EMEA, which is historically our highest gross profit segment. Gross margin as a percentage of net revenues by regional segment for each of fiscal 2012 and 2011 was as follows:

 

     2012     2011     Basis
Point
Change
 

Americas

     43.3     46.5     (320 ) bp 

EMEA

     55.4     59.6     (420 ) bp 

APAC

     51.1     53.1     (200 ) bp 

Consolidated

     48.7     52.4     (370 ) bp 

The increased level of clearance sales in our wholesale channel and the higher level of discounting in our retail channel were driven by our decision to more aggressively liquidate excess prior season inventory in fiscal 2012, particularly in the fourth quarter. The level of excess prior season inventory was attributable to the revenue shortfall

 

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in EMEA versus our internal plans, retail store inventory rebalancing in the Americas, and slower inventory sell through than we anticipated for earlier seasons. The clearance sales within our wholesale channel were at lower margins than in fiscal 2011. As of October 31, 2012, prior season inventory was approximately 7% of total inventory, which was generally consistent with historical levels as of fiscal year-end. Due to the current economic difficulties in Europe, we believe that discounting within both the wholesale and retail channels may continue to impact our year over year gross margin comparisons in the EMEA segment. The relative level of discounted sales can be driven by a number of factors, including customer acceptance of our product designs, our projections of consumer demand, fashion trends, economic conditions, and changes in consumer spending, all of which are inherently difficult to anticipate. As a result of these factors, the level of discounted sales can fluctuate significantly from quarter to quarter.

Selling, General and Administrative Expense

Selling, general and administrative expenses (“SG&A”) increased $20 million, or 2%, to $916 million in fiscal 2012 compared to $896 million in fiscal 2011. The increase in SG&A was primarily due to higher e-commerce expenses associated with the expansion of our online business and higher non-cash stock compensation expenses within our Corporate Operations segment, partially offset by reductions in marketing and other expense savings measures across all regions. Within APAC, the increase in SG&A was attributable to higher retail, selling and marketing expenses associated with the opening of new retail stores and growth in our emerging markets. SG&A by segment (in millions) as reported for fiscal 2012 and 2011 was as follows:

 

     2012     2011           Basis
Point
Change
 
     $      % of Net
Revenues
    $      % of Net
Revenues
    $
Change
   

Americas

     362         36.5     361         39.5     1        (300 ) bp 

EMEA

     338         47.5     340         44.7     (2     280  bp 

APAC

     157         51.2     148         54.3     9        (310 ) bp 

Corporate Operations

     59           47           12     
  

 

 

      

 

 

      

 

 

   

Consolidated

     916         45.5     896         45.9     20        (40 ) bp 
  

 

 

      

 

 

      

 

 

   

As a percentage of net revenues, SG&A improved by 40 basis points to 45.5% in fiscal 2012 compared to 45.9% in fiscal 2011. SG&A improved approximately 300 basis points in each of the Americas and APAC segments primarily due to net revenue growth outpacing SG&A growth in fiscal 2012. SG&A deleveraged 280 basis points in EMEA as the 1% reduction in SG&A expense was less than the 7% decrease in net revenues.

Asset Impairments

Asset impairment charges were $7 million in fiscal 2012 compared to $86 million in fiscal 2011. Impairment charges in fiscal 2012 were primarily related to our decision to close certain retail stores. Impairment charges for fiscal 2011 were primarily due to a $74 million goodwill impairment charge recorded in APAC due to the natural disasters that occurred in the region and their resulting impact on our business, as well as $12 million of impairment charges for certain retail stores.

Non-operating Expenses

Net interest expense decreased to $61 million in fiscal 2012 compared to $74 million in fiscal 2011 primarily as a result of the decline in our total non-cash interest expense. Non-cash interest expense decreased from $19 million in fiscal 2011 to $4 million in the current year, primarily due to a $14 million write-off of deferred debt issuance costs in fiscal 2011 associated with our European term loans that were paid off during the prior year upon the issuance of our European senior notes.

 

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Our foreign currency gain amounted to $1.7 million in fiscal 2012 compared to $0.1 million in fiscal 2011. The current year gain resulted primarily from the foreign currency exchange effect of certain U.S. dollar denominated liabilities of our foreign subsidiaries.

Our income tax expense was $8 million in fiscal 2012 compared to a tax benefit of $14 million in fiscal 2011. Although we incurred a net loss during fiscal 2012, we incurred income tax expense of $8 million for the year as we were unable to benefit from the losses in certain jurisdictions where we have recorded valuation allowances. We also increased our gross deferred tax asset and valuation allowance relating to foreign net operating loss carryovers by approximately $82 million relating to a net operating loss incurred in a tax jurisdiction where we do not incur significant taxes. After valuation allowance, the impact of this additional net deferred tax asset resulted in a tax benefit of approximately $3 million in fiscal 2012.

Net Loss attributable to Quiksilver, Inc.

Our net loss attributable to Quiksilver, Inc. in fiscal 2012 was $11 million, or $0.07 per share on a diluted basis, compared to $21 million, or $0.13 per share on a diluted basis for fiscal 2011.

Adjusted EBITDA

Adjusted EBITDA decreased 28% to $141 million in fiscal 2012 compared to $194 million in fiscal 2011 primarily due to the gross profit margin decrease noted above. For a definition of Adjusted EBITDA and a reconciliation of loss from continuing operations attributable to Quiksilver, Inc. to Adjusted EBITDA, see footnote (5) to the table under Item 6, Selected Financial Data.

Fiscal 2011 Compared to Fiscal 2010

Revenues, net

Our total net revenues increased 6% in fiscal 2011 to $1,953 million from $1,838 million in fiscal 2010. In constant currency, net revenues increased 3% compared to the prior year. The following table presents net revenues (in millions) by segment in historical currency for fiscal 2011 and 2010:

 

     Americas     EMEA     APAC     Corporate      Total  

Fiscal 2011

   $ 914      $ 761      $ 272      $ 5       $ 1,953   

Fiscal 2010

     843        729        261        5         1,838   

% increase

     8     4     5        6

Revenues in the Americas increased 8% to $914 million for fiscal 2011 from $843 million in the prior year, while EMEA revenues increased 4% to $761 million from $729 million and APAC revenues increased 5% to $272 million from $261 million for those same periods. The increase in Americas’ net revenues came primarily from DC and Quiksilver brand revenues, while Roxy brand revenues were consistent with the prior year. The increase in DC brand revenues came primarily from our footwear product category and, to a lesser extent, our accessories product category. The increase in Quiksilver brand revenues came primarily from our accessories product category and, to a lesser extent, our footwear and apparel product categories. Roxy brand revenues experienced growth in our accessories and footwear product categories, which was offset by a decrease in our apparel product category.

The following table presents net revenues (in millions) by segment in constant currency for fiscal 2011 and 2010:

 

     Americas     EMEA     APAC     Corporate      Total  

Fiscal 2011

   $ 914      $ 761      $ 272      $ 5       $ 1,953   

Fiscal 2010

     843        754        295        5         1,896   

% increase/(decrease)

     8     1     (8 )%         3

EMEA net revenues increased 1% in constant currency. The currency adjusted increase in EMEA came primarily from growth in DC brand revenues, partially offset by modest declines in our Roxy brand revenues and, to a lesser

 

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extent, Quiksilver brand revenues. The increase in DC brand revenues came primarily from growth in our apparel product category and, to a lesser extent, our accessories and footwear product categories. The decrease in Roxy brand revenues was generally from our apparel product category and, to a lesser extent, our accessories product category, partially offset by growth in our footwear product category. The decrease in Quiksilver brand revenues was primarily from our accessories product category and, to a lesser extent, our footwear product category, partially offset by slight growth in our apparel product category. APAC’s net revenues decreased 8% in constant currency. The currency adjusted decrease in APAC revenues came primarily from Roxy brand revenues and, to a lesser extent, Quiksilver brand revenues, partially offset by strong growth in DC brand revenues.

Net revenues by brand (in millions) in historical currency for each of fiscal 2011 and 2010 were as follows:

 

     Quiksilver     DC     Roxy     Other     Total  

Fiscal 2011

   $ 806      $ 545      $ 519      $ 83      $ 1,953   

Fiscal 2010

     770        471        528        69        1,838   

% increase/(decrease)

     5     16     (2 )%      20     6

Gross Profit

Gross profit increased to $1.02 billion in fiscal 2011 from $967 million in the prior year. Gross margin decreased slightly to 52.4% of net revenues in fiscal 2011 from 52.6% in the prior year.

Gross margin as a percentage of net revenues by regional segment for each of fiscal 2011 and 2010 was as follows:

 

     2011     2010    

Basis
Point
Change

Americas

     46.5     46.3   20 bp

EMEA

     59.6     59.8   (20) bp

APAC

     53.1     54.2   (110) bp

Consolidated

     52.4     52.6   (20) bp

Gross margin in the Americas segment increased 20 basis points to 46.5% from 46.3% in the prior year. EMEA gross margin decreased 20 basis points to 59.6% from 59.8%. APAC gross margin decreased 110 basis points to 53.1% from 54.2%. The increase in Americas’ gross margin was primarily the result of a greater percentage of retail versus wholesale sales, including e-commerce sales. Our retail gross margins are typically higher than our wholesale gross margins. Our EMEA gross margin decreased primarily as a result of a smaller percentage of retail versus wholesale sales, as we operated fewer retail stores throughout EMEA during fiscal 2011. In APAC, the gross margin decrease was primarily due to a smaller percentage of retail versus wholesale sales, partially offset by continued margin improvements at retail in Japan, although such improvements were somewhat muted due to the impact of the natural disasters that occurred in that market.

 

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Selling, General and Administrative Expense

Our SG&A increased 8% in fiscal 2011 to $896 million from $832 million in fiscal 2010. As a percentage of net revenues, SG&A increased to 45.9% of revenues in fiscal 2011 compared to 45.3% in fiscal 2010. SG&A by segment for fiscal 2011 and 2010 was as follows:

 

     2011     2010           

Basis

Point
Change

     $      % of Net
Revenues
    $      % of Net
Revenues
    $
Change
    

Americas

     361         39.5     325         38.5     36       100 bp

EMEA

     340         44.7     340         46.7     0       (200) bp

APAC

     148         54.3     128         49.2     20       510 bp

Corporate Operations

     47           39           8      
  

 

 

      

 

 

      

 

 

    

Consolidated

     896         45.9     832         45.3     64       60 bp
  

 

 

      

 

 

      

 

 

    

In the Americas, SG&A expenses increased 11% to $361 million in fiscal 2011 from $325 million in fiscal 2010. SG&A as a percentage of revenues increased to 39.5% compared to 38.5% in the prior year. The increase in SG&A as a percentage of revenues in the Americas was primarily due to additional spending to support growth initiatives, including marketing, retail and e-commerce expenses. In EMEA, SG&A was unchanged at $340 million. SG&A as a percentage of revenues decreased to 44.7% compared to 46.7% in the prior year. The decrease in SG&A as a percentage of revenues in EMEA was primarily due to lower retail store expenses resulting from fewer retail stores. EMEA’s SG&A decreased 3% in constant currency. In APAC, SG&A increased 15% to $148 million from $128 million for those same periods. SG&A as a percentage of revenues increased to 54.3% compared to 49.2% in the prior year. In APAC, the increase in SG&A as a percentage of revenues was primarily the result of lower revenues and, to a lesser extent, the cost of operating additional retail stores. APAC’s SG&A increased 2% in constant currency.

Asset Impairments

Asset impairment charges were $86 million in fiscal 2011 compared to $12 million in fiscal 2010. The impairment charges for fiscal 2011 were primarily due to a $74 million goodwill impairment charge recorded in APAC due to the natural disasters that occurred in the region and their resulting impact on our business, and $12 million of impairment charges for certain retail stores. The impairment charge in fiscal 2010 relates to certain retail stores.

Non-operating Expenses

Net interest expense decreased to $74 million in fiscal 2011 compared to $114 million in fiscal 2010 primarily as a result of the decline in our total non-cash interest expense. Non-cash interest expense decreased from $57 million in fiscal 2010, including a $33 million write-off in conjunction with the repayment of the senior secured term loans which were held by entities affiliated with Rhône Capital LLC, to $19 million in fiscal 2011, which included a $14 million write-off in conjunction with the payoff of our European term loans in December 2010 upon the issuance of our European senior notes.

Our foreign currency gain amounted to $0.1 million in fiscal 2011 compared to $6 million in fiscal 2010. The gain in fiscal 2011 resulted primarily from the foreign currency exchange effect of certain U.S. dollar denominated liabilities of our foreign subsidiaries.

Our income tax benefit was $14 million in fiscal 2011 compared to tax expense of $23 million in fiscal 2010. During fiscal 2011, we recorded a tax benefit of approximately $69 million upon the settlement of certain tax positions previously provided for under ASC 740. This was partially offset by an increase to tax expense to establish a valuation allowance of approximately $19 million against deferred tax assets in APAC. As a result of the APAC valuation allowance, and the valuation allowance previously established in the U.S., no tax benefits were recognized for losses in those tax jurisdictions in fiscal 2011.

 

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Net Loss attributable to Quiksilver, Inc.

Our net loss attributable to Quiksilver, Inc. in fiscal 2011 was $21 million, or $0.13 per share on a diluted basis, compared to $12 million, or $0.09 per share on a diluted basis for fiscal 2010.

Adjusted EBITDA

Adjusted EBITDA decreased 5% to $194 million in fiscal 2011 compared to $204 million in fiscal 2010. For a definition of Adjusted EBITDA and a reconciliation of loss attributable to Quiksilver, Inc. to Adjusted EBITDA, see footnote (5) to the table under Item 6, Selected Financial Data.

Financial Position, Capital Resources and Liquidity

The following table shows our cash, working capital and total indebtedness at October 31, 2012 and 2011:

 

     October 31      %
Change
 
in $millions    2012      2011     

Cash and cash equivalents

   $ 42       $ 110         (62 )% 

Working capital

     549         581         (6 )% 

Total indebtedness

     758         748         1

We believe that our cash flows from operations, together with our existing credit facilities, cash on hand and term loans will be adequate to fund our capital requirements for at least the next twelve months. See “Debt Structure” below for a description of the various debt agreements comprising our total indebtedness.

Operating Cash Flows

We used cash of $14 million in operating activities in fiscal 2012 compared to cash provided of $54 million in fiscal 2011. This $68 million change was primarily due to a $65 million decrease in net income from operations before non-cash charges in fiscal 2012 compared to fiscal 2011. In addition, operating cash flows declined $3 million from changes in operating assets and liabilities as detailed in our cash flow statement.

Working Capital—Trade Accounts Receivable and Inventories

Two of the primary components of our working capital and near-term sources of cash at any point in time are trade accounts receivable and inventories.

A comparison of the balances of these items as of October 31, 2012 and 2011, in both historical and constant currency, is as follows:

 

     October 31      %
Change
 
in $millions    2012      2011     

Trade accounts receivable, historical currency

   $ 434       $ 397         9

Trade accounts receivable, constant currency

     434         381         14

Average days sales outstanding(1) (2)

     85         78         9

Inventories, historical currency

     345         348         (1 )% 

Inventories, constant currency

     345         333         4

Inventory days on hand(1) (3)

     103         119         (14 )% 

 

(1) 

Average days sales outstanding and inventory on hand are presented based on historical currency only.

(2) 

Computed as net accounts receivable as of the balance sheet date, excluding value added taxes, divided by the result obtained by dividing fiscal 2012 fourth quarter net wholesale revenues by 90 days.

(3) 

Computed as net inventory as of the balance sheet date divided by the result obtained by dividing fiscal 2012 fourth quarter cost of goods sold by 90 days.

 

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The 9% increase in trade accounts receivable as of October 31, 2012 compared to October 31, 2011 was primarily due to the increases in net revenues in the Americas and APAC. Days sales outstanding (“DSO”) was flat in the Americas and increased in both APAC and EMEA. The increase in DSO was driven by the timing of customer payments at year end and longer credit terms granted to certain wholesale customers. Total net inventory declined $3 million as of October 31, 2012 compared to October 31, 2011 and inventory days on hand decreased by 16 days year over year primarily due to the increased clearance sales that occurred during the fourth quarter of fiscal 2012.

Capital Expenditures

Capital expenditures were $66 million in fiscal 2012 compared to $90 million in fiscal 2011. These investments include company-owned stores and ongoing investments in computer and warehouse equipment, including a new ERP system. In fiscal 2013, capital expenditures are expected to be of a similar nature and are not expected to exceed $60 million. We intend to fund these expenditures from operating cash flows and availability on our credit facilities.

Debt Structure

We generally finance our working capital needs and capital investments with operating cash flows and bank revolving lines of credit. Multiple banks in the United States, Europe and Australia make these lines of credit available to us. Term loans are also used to supplement these lines of credit and are typically used to finance long-term assets. Our debt structure at October 31, 2012 includes short-term lines of credit and long-term debt as follows:

 

In millions    U.S. Dollar      Non U.S. Dollar      Total  

APAC Credit Facility

   $       $ 18       $ 18   
  

 

 

    

 

 

    

 

 

 

Short-term lines of credit

             18         18   

Americas Credit Facility

     47                 47   

Americas Term Loan

     15                 15   

EMEA lines of credit

             8         8   

Senior Notes

     400                 400   

European Senior Notes

             259         259   

Capital lease obligations and other borrowings

     7         4         11   
  

 

 

    

 

 

    

 

 

 

Long-term debt

     469         271         740   
  

 

 

    

 

 

    

 

 

 

Total

   $ 469       $ 289       $ 758   
  

 

 

    

 

 

    

 

 

 

At October 31, 2012, our credit facilities allowed for total maximum cash borrowings and letters of credit of $360 million. Our total maximum borrowings and actual availability fluctuate with the amount of assets comprising our borrowing base under certain of the credit facilities. At October 31, 2012, we had a total of $73 million of direct borrowings and $86 million in letters of credit outstanding. The amount of availability for borrowings remaining as of October 31, 2012 was $154 million, $71 million of which could also be used for letters of credit in the United States. In addition to the $154 million of availability for borrowings, we also had $47 million in additional capacity for letters of credit in EMEA and APAC as of October 31, 2012. A description of each of our credit arrangements in the table above follows:

APAC Credit Facility:

In September 2011, we entered into a new $21 million ($20 million Australian dollars) credit facility specifically for our APAC operations. The maturity date of this credit facility is October 31, 2013. Combined with certain remaining uncommitted borrowings, APAC has $31 million of aggregate borrowing capacity. At October 31, 2012, there were $18 million of direct borrowings (at an average interest rate of 5.3%) and $8 million in letters of credit outstanding. This facility contains customary default provisions and restrictive covenants for facilities of its type. As of October 31, 2012, we were in compliance with such covenants.

 

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Americas Credit Facility:

On July 31, 2009, we entered into a $200 million asset-based credit facility for our Americas’ operations. On August 27, 2010, we entered into an amendment to this credit facility (as amended, the “Americas Credit Facility”). The Americas Credit Facility is a $150 million facility (with the option to expand the facility to $250 million on certain conditions) and the amendment, among other things, extended the maturity date of the Americas Credit Facility to August 27, 2014. The Americas Credit Facility includes a $103 million sublimit for letters of credit and bears interest at a rate of LIBOR plus a margin of 2.5% to 3.0% (currently at 4.4%), depending upon usage. At October 31, 2012, there were $47 million of direct borrowings and $31 million in letters of credit outstanding under the Americas Credit Facility.

The Americas Credit Facility is guaranteed by Quiksilver, Inc. and certain of our domestic and Canadian subsidiaries. The Americas Credit Facility is secured by a first priority interest in our U.S. and Canadian accounts receivable, inventory, certain intangibles, a second priority interest in substantially all other personal property and a second priority pledge of shares of certain of our domestic subsidiaries. The borrowing base is limited to certain percentages of eligible accounts receivable and inventory from participating subsidiaries. The Americas Credit Facility contains customary default provisions, including cross default provisions against the Americas Term Loan and other material indebtedness, and restrictive covenants for facilities of its type. As of October 31, 2012, we were in compliance with such covenants in the Americas Credit Facility and obtained a waiver for one covenant in the Americas Term Loan where we were not in compliance.

Americas Term Loan:

On October 27, 2010, we entered into a $20 million term loan for our Americas’ operations. The maturity date of this term loan is August 27, 2014. The term loan has minimum principal repayments of $1.5 million due on June 30 and December 31 of each year, until the principal balance is reduced to $14 million. The term loan bears interest at LIBOR plus 5.0% (currently 5.3%). The term loan is guaranteed by Quiksilver, Inc. and secured by a first priority interest in substantially all assets, excluding accounts receivable and inventory, of certain of our domestic subsidiaries and a second priority interest in the accounts receivable and inventory of certain of our domestic subsidiaries, in which the lenders under the Americas Credit Facility have a first-priority security interest. The term loan contains customary default provisions and restrictive covenants for loans of its type. As of October 31, 2012, we were in compliance with certain of these covenants, and obtained the appropriate waiver for one covenant where we were not in compliance. The balance outstanding on the Americas term loan at October 31, 2012 was $15 million.

EMEA lines of credit:

We have various lines of credit from several banks in Europe that provide up to $89 million of available capacity for borrowings and an additional $89 million of available capacity for letters of credit. At October 31, 2012, there were $8 million of direct borrowings (at an average borrowing rate of 1%) and $47 million in letters of credit outstanding under these lines of credit.

Senior Notes:

In July 2005, we issued the Senior Notes, which bear a coupon interest rate of 6.875%, were issued at par value, and are due April 15, 2015. The Senior Notes are guaranteed on a senior unsecured basis by each of our domestic subsidiaries that guarantee any of our indebtedness or our subsidiaries’ indebtedness, or are obligors under our Americas Credit Facility (the “Guarantors”). We may redeem some or all of the Senior Notes at fixed redemption prices as set forth in the indenture related to such Senior Notes.

The Senior Notes indenture includes covenants that limit our ability to, among other things: incur additional debt; pay dividends on our capital stock or repurchase our capital stock; make certain investments; enter into certain types of transactions with affiliates; cause our restricted subsidiaries to pay dividends or make other payments to us; use assets as security in other transactions; and sell certain assets or merge with or into other companies. If we experience a change of control (as defined in the indenture), we will be required to offer to purchase the Senior Notes at a purchase price equal to 101% of their principal amount, plus accrued and unpaid interest. As of October 31, 2012, we were in compliance with these covenants. In addition, we have approximately $3 million in unamortized debt issuance costs related to the Senior Notes included in other assets as of October 31, 2012.

 

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European Senior Notes:

In December 2010, we issued the European Senior Notes, which bear a coupon interest rate of 8.875% and are due December 15, 2017. The European Senior Notes were issued at par value in a private offering that was exempt from the registration requirements of the Securities Act of 1933, as amended (the “Securities Act”). The European Senior Notes were offered within the United States only to qualified institutional buyers in accordance with Rule 144A under the Securities Act and outside the United States only to non-U.S. investors in accordance with Regulation S under the Securities Act. The European Senior Notes will not be registered under the Securities Act or the securities laws of any other jurisdiction.

The European Senior Notes are general senior obligations and are fully and unconditionally guaranteed on a senior unsecured basis by Quiksilver, Inc. and certain of its current and future U.S. and non-U.S. subsidiaries, subject to certain exceptions. We may redeem some or all of the European Senior Notes at fixed redemption prices as set forth in the indenture related to such European Senior Notes. The European Senior Notes indenture includes covenants that limit our ability to, among other things: incur additional debt; pay dividends on our capital stock or repurchase our capital stock; make certain investments; enter into certain types of transactions with affiliates; cause our restricted subsidiaries to pay dividends or make other payments to Quiksilver, Inc.; use assets as security in other transactions; and sell certain assets or merge with or into other companies. As of October 31, 2012, we were in compliance with these covenants.

We used the proceeds from the European Senior Notes to repay our then existing European term loans and to pay related fees and expenses. As a result, we recognized non-cash, non-operating charges during the fiscal year ended October 31, 2011 of approximately $14 million, included in interest expense, to write-off the deferred debt issuance costs related to such term loans. We capitalized approximately $6 million of debt issuance costs associated with the issuance of the European Senior Notes, which are being amortized into interest expense over the seven-year term of the European Senior Notes.

We also had approximately $11 million in capital leases and other borrowings as of October 31, 2012.

Our financing activities provided cash of $21 million in fiscal 2012 compared to $23 million in fiscal 2011. In fiscal 2012, net cash provided by net borrowings on our various credit facilities was $30 million compared to $25 million in fiscal 2011. These net borrowings were used to finance working capital needs. In fiscal 2012, we also purchased additional ownership in one of our non-controlled entities for $11 million.

Contractual Obligations and Commitments

We lease certain land and buildings under non-cancelable operating leases. The leases expire at various dates through 2029, excluding renewals at our option, and contain various provisions for rental adjustments including, in certain cases, adjustments based on increases in the Consumer Price Index. The leases generally contain renewal provisions for varying periods of time. We also have long-term debt related to business acquisitions.

Our significant contractual obligations and commitments as of October 31, 2012 are summarized in the following table:

 

     Payments Due by Period  
In millions    One
Year
     Two to
Three
Years
     Four to
Five

Years
     After
Five
Years
     Total  

Operating lease obligations

   $ 102       $ 160       $ 99       $ 99       $ 460   

Long-term debt obligations(1)

     37         461         1         259         758   

Professional athlete sponsorships(2)

     29         34         15                 78   

Certain other obligations(3)

     88         4         3                 95   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 
   $ 256       $ 659       $ 118       $ 358       $ 1,391   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

(1) 

Represents all long-term debt obligations, including capital leases of $11 million. Excludes required interest payments. See note 7 of our consolidated financial statements for interest terms.

 

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(2) 

We establish relationships with professional athletes in order to promote our products and brands. We have entered into endorsement agreements with professional athletes in sports such as surfing, skateboarding, snowboarding, BMX and motocross. Many of these contracts provide incentives for magazine exposure and competitive victories while wearing or using our products. It is not possible to determine the amounts we may be required to pay under these agreements as they are subject to many variables. The amounts listed are the approximate amounts of minimum obligations required to be paid under these contracts. The estimated maximum amount that could be paid under existing contracts is approximately $105 million and would assume that all bonuses, victories, etc. are achieved during a five-year period. The actual amounts paid under these agreements may be higher or lower than the amounts listed as a result of the variable nature of these obligations.

 

(3)

Certain other obligations include approximately $86 million of contractual letters of credit with maturity dates of less than one year (see note 7 of our consolidated financial statements for additional details) and approximately $9 million related to our French profit sharing plan (see note 13 of our consolidated financial statements for additional details). We also enter into unconditional purchase obligations with various suppliers of goods and services in the normal course of operations through purchase orders or other documentation. Such unconditional purchase obligations are generally outstanding for periods of less than a year and are settled by cash payments upon delivery of goods and services and are not reflected in this line item. We have approximately $18 million of tax contingencies related to ASC 740, “Income Taxes.” See note 12 of our consolidated financial statements for our complete income taxes disclosure. Based on the uncertainty of the timing of these contingencies, these amounts have not been included in this line item.

Off Balance Sheet Arrangements

Other than certain obligations and commitments described in the table above, we did not have any material off balance sheet arrangements as of October 31, 2012.

Inflation

Inflation has been modest during the years covered by this report, resulting in an insignificant impact on our sales and profits.

New Accounting Pronouncements

In June 2011, the FASB issued ASU 2011-05, “Presentation of Comprehensive Income.” ASU 2011-05 requires the components of net income and other comprehensive income to be either presented in one continuous statement, referred to as the statement of comprehensive income, or in two separate, but consecutive statements. An entity is also required to present on the face of the financial statements reclassification adjustments for items that are reclassified from other comprehensive income to net income in the statement(s) where the components of net income and the components of other comprehensive income are presented. While the new guidance changes the presentation of comprehensive income, there are no changes to the components that are recognized in net income or other comprehensive income under current accounting guidance. This new guidance is effective for us beginning November 1, 2012 and requires retrospective application. As this guidance only amends the presentation of the components of comprehensive income, the adoption will not have an impact on our consolidated financial position or results of operations.

In September 2011, the FASB issued ASU 2011-08, “Testing Goodwill for Impairment.” ASU 2011-08 allows entities testing goodwill for impairment the option of performing a qualitative assessment to determine the likelihood of goodwill impairment and whether it is necessary to perform the two-step impairment test currently required. The updated guidance is effective for us on November 1, 2012. Based on our evaluation of this ASU, the adoption of this standard is not expected to have a material impact on our consolidated financial position or results of operations.

 

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Critical Accounting Policies

Our consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America. To prepare these financial statements, we must make estimates and assumptions that affect the reported amounts of assets and liabilities. These estimates also affect our reported revenues and expenses. Judgments must also be made about the disclosure of contingent liabilities. Actual results could be significantly different from these estimates. We believe that the following discussion addresses the accounting policies that are necessary to understand and evaluate our reported financial results.

Revenue Recognition

Revenues are recognized when the risk of ownership and title passes to our customers. Generally, we extend credit to our customers and do not require collateral. Our sales agreements with our customers do not provide for any rights of return. However, we do approve returns on a case-by-case basis at our sole discretion to protect our brands and our image. We provide allowances for estimated returns when revenues are recorded, and related losses have historically been within our expectations. If returns are higher than our estimates, our results of operations would be adversely affected.

Accounts Receivable

Throughout the year, we perform credit evaluations of our customers, and we adjust credit limits based on payment history and the customer’s current creditworthiness. We continuously monitor our collections and maintain a reserve for estimated credit losses based on our historical experience and any specific customer collection issues that have been identified. We also use insurance on certain classes of receivables in our EMEA segment. Historically, our losses have been consistent with our estimates, but there can be no assurance that we will continue to experience the same credit loss rates that we have experienced in the past. It is not uncommon for some of our customers to have financial difficulties from time to time. This is normal given the wide variety of our account base, which includes small surf shops, medium-sized retail chains, and some large department store chains. Unforeseen, material financial difficulties of our customers could have an adverse impact on our results of operations.

Inventories

We value inventories at the cost to purchase and/or manufacture the product or the current estimated market value of the inventory, whichever is lower. We regularly review our inventory quantities on hand, and adjust inventory values for excess and obsolete inventory based primarily on estimated forecasts of product demand and market value. Demand for our products could fluctuate significantly. The demand for our products could be negatively affected by many factors, including the following:

 

   

weakening economic conditions;

 

   

product quality and pricing;

 

   

changes in consumer preferences;

 

   

reduced customer confidence; and

 

   

unseasonable weather.

Our estimates of product demand and/or market value could be inaccurate, which could result in an understated or overstated provision required for excess and obsolete inventory.

Long-Lived Assets

We acquire tangible and intangible assets in the normal course of our business. We evaluate the recoverability of the carrying amount of these long-lived assets (including fixed assets, trademarks, licenses and other amortizable intangibles) whenever events or changes in circumstances indicate that the carrying value of an asset may not be

 

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recoverable. An impairment loss is recognized when the carrying value exceeds the undiscounted future cash flows estimated to result from the use and eventual disposition of the asset. Impairments are recognized in operating earnings. We use our best judgment based on the most current facts and circumstances regarding our business when applying these impairment rules to determine the timing of the impairment tests, the undiscounted cash flows used to assess impairments, and the fair value of a potentially impaired asset. Changes in assumptions used could have a significant impact on our assessment of recoverability.

Goodwill

We evaluate the recoverability of goodwill at least annually based on a two-step impairment test. The first step compares the fair value of each reporting unit with its carrying amount, including goodwill. We have three reporting units under which we evaluate goodwill for impairment, the Americas, EMEA and APAC. We estimate the fair value of our reporting units using a combination of a discounted cash flow approach and market approach. Material assumptions in our test for impairment include future cash flows of each reporting unit, discount rates applied to these cash flows and current market estimates of value. The discount rates used approximate our cost of capital. Future cash flows assume varying degrees of future growth in each reporting unit’s business. If the carrying amount exceeds fair value under the first step of our goodwill impairment test, then the second step of the impairment test is performed to measure the amount of any impairment loss.

As of October 31, 2012, the fair value of our Americas reporting unit substantially exceeded its carrying value. The fair values of our EMEA and APAC reporting units exceeded their carrying values by 6% and 5%, respectively. Goodwill amounted to $191 million for EMEA and $6 million for APAC as of October 31, 2012. No goodwill impairments were recorded in fiscal 2012. We recorded a goodwill impairment charge of approximately $74 million in 2011 due to the natural disasters that occurred in several of our markets within our APAC reporting unit during the first half of fiscal 2011 and their resulting impact on our business.

Based on the uncertainty of future growth rates and other assumptions used to estimate goodwill recoverability in our reporting units, future reductions in our expected cash flows for a reporting unit could cause a material impairment of goodwill.

Income Taxes

Current income tax expense is the amount of income taxes expected to be payable for the current year. A deferred income tax asset or liability is established for the expected future consequences of temporary differences in the financial reporting and tax bases of assets and liabilities. We consider future taxable income and ongoing prudent and feasible tax planning strategies in assessing the value of our deferred tax assets. If we determine that it is more likely than not that these assets will not be realized, we would reduce the value of these assets to their expected realizable value by recording a valuation allowance, thereby decreasing net income. Evaluating the value of these assets is necessarily based on our judgment. If we subsequently determine that the deferred tax assets for which a valuation allowance had been recorded would, in our judgment, be realized in the future, the valuation allowance would be reduced, thereby increasing net income in the period when that determination was made.

We adhere to the authoritative guidance included in ASC 740, “Income Taxes” which clarifies the accounting for uncertainty in income taxes recognized in the financial statements. This guidance provides that a tax benefit from an uncertain tax position may be recognized when it is more likely than not that the position will be sustained upon examination, including resolutions of any related appeals or litigation processes, based on the technical merits of the tax position. We recognize accrued interest and penalties related to unrecognized tax benefits as a component of our provision for income taxes. The application of this guidance can create significant variability in our tax rate from period to period based upon changes in or adjustments to our uncertain tax positions.

Stock-Based Compensation Expense

We recognize compensation expense for all stock-based payments net of an estimated forfeiture rate and only recognize compensation cost for those shares expected to vest using the graded vested method over the requisite service period of the award. For option valuation, we determine the fair value at the grant date using the Black-

 

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Scholes option-pricing model which requires the input of certain assumptions, including the expected life of the stock-based payment awards, stock price volatility and interest rates. For performance based equity awards with stock price contingencies, we determine the fair value using a Monte-Carlo simulation, which creates a normal distribution of future stock prices, which is then used to value the awards based on their individual terms.

Foreign Currency Translation

A significant portion of our revenues are generated in Europe, where we operate with the euro as our primary functional currency, and a smaller portion of our revenues are generated in APAC, where we operate with the Australian dollar and Japanese yen as our primary functional currencies. Our European revenues in the United Kingdom are denominated in British pounds, and substantial portions of our EMEA and APAC product is sourced in U.S. dollars, both of which result in exposure to gains and losses that could occur from fluctuations in foreign currency exchange rates. Revenues and expenses that are denominated in foreign currencies are translated using the average exchange rate for the period. Assets and liabilities are translated at the rate of exchange on the balance sheet date. Gains and losses from assets and liabilities denominated in a currency other than the functional currency of the entity on which they reside are generally recognized currently in our statement of operations. Gains and losses from translation of foreign subsidiary financial statements into U.S. dollars are included in accumulated other comprehensive income or loss.

As part of our overall strategy to manage our level of exposure to the risk of fluctuations in foreign currency exchange rates, we enter into foreign currency exchange contracts generally in the form of forward contracts. For all contracts that qualify as cash flow hedges, we record the changes in the fair value of the derivative contracts in other comprehensive income or loss.

Item 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

We are exposed to a variety of risks. Two of these risks are foreign currency exchange rate fluctuations and changes in interest rates that affect interest expense. See also note 15 of our consolidated financial statements.

Foreign Currency and Derivatives

We are exposed to gains and losses resulting from fluctuations in foreign currency exchange rates relating to certain sales, royalty income and product purchases of our international subsidiaries that are denominated in currencies other than their functional currencies. We are also exposed to foreign currency gains and losses resulting from domestic transactions that are not denominated in U.S. dollars, and to fluctuations in interest rates related to our variable rate debt. Furthermore, we are exposed to gains and losses resulting from the effect that fluctuations in foreign currency exchange rates have on the reported results in our consolidated financial statements due to the translation of the operating results and financial position of our international subsidiaries. We use foreign currency exchange contracts and intercompany loans as part of our overall strategy to manage the level of exposure to the risk of fluctuations in foreign currency exchange rates.

On the date we enter into a derivative contract, we designate the derivative as a hedge of the identified exposure. Before entering into various hedge transactions, we formally document all relationships between hedging instruments and hedged items, as well as the risk-management objective and strategy. In this documentation, we identify the asset, liability, firm commitment, or forecasted transaction that has been designated as a hedged item and indicate how the hedging instrument is expected to hedge the risks related to the hedged item. We formally measure effectiveness of our hedging relationships both at the hedge inception and on an ongoing basis in accordance with our risk management policy. We will discontinue hedge accounting prospectively:

 

   

if we determine that the derivative is no longer effective in offsetting changes in the cash flows of a hedged item;

 

   

when the derivative expires or is sold, terminated or exercised;

 

   

if it becomes probable that the forecasted transaction being hedged by the derivative will not occur;

 

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if a hedged firm commitment no longer meets the definition of a firm commitment; or

 

   

if we determine that designation of the derivative as a hedge instrument is no longer appropriate.

Derivatives that do not qualify or are no longer deemed effective to qualify for hedge accounting but are used by management to mitigate exposure to currency risks are marked to fair value with corresponding gains or losses recorded in earnings. For all qualifying cash flow hedges, the changes in the fair value of the derivatives are recorded in other comprehensive income. As of October 31, 2012, we were hedging forecasted transactions expected to occur through October 2013. Assuming exchange rates at October 31, 2012 remain constant, $6 million of gains, net of tax, related to hedges of these transactions are expected to be reclassified into earnings over the next twelve months.

We enter into forward exchange and other derivative contracts with major banks and are exposed to foreign currency losses in the event of nonperformance by these banks. We anticipate, however, that these banks will be able to fully satisfy their obligations under the contracts. Accordingly, we do not obtain collateral or other security to support the contracts.

Translation of Results of International Subsidiaries

As discussed above, we are exposed to financial statement gains and losses as a result of translating the operating results and financial position of our international subsidiaries. We translate the local currency statements of operations of our foreign subsidiaries into U.S. dollars using the average exchange rate during the reporting period. Changes in foreign currency exchange rates affect our reported results and distort comparisons from period to period. We generally do not use foreign currency exchange contracts to hedge the profit and loss effects of such exposure as accounting rules do not allow such types of contracts to qualify for hedge accounting.

By way of example, when the U.S. dollar strengthens compared to the euro, there is a negative effect on our reported results for EMEA because it takes more profits in euros to generate the same amount of profits in stronger U.S. dollars. The opposite is also true. That is, when the U.S. dollar weakens there is a positive effect on the translation of our reported results from EMEA. In addition, the statements of operations of APAC are translated from Australian dollars and Japanese yen into U.S. dollars, and there is a negative effect on our reported results for APAC when the U.S. dollar is stronger in comparison to the Australian dollar or Japanese yen.

EMEA revenues increased 1% in euros during fiscal 2012 compared to fiscal 2011. As measured in U.S. dollars and reported in our consolidated statements of operations, EMEA revenues decreased 7% as a result of a weaker euro versus the U.S. dollar in comparison to the prior year.

APAC revenues increased 12% in Australian dollars during fiscal 2012 compared to fiscal 2011. As measured in U.S. dollars and reported in our consolidated statements of operations, APAC revenues increased 13% as a result of a stronger Australian dollar and Japanese yen versus the U.S. dollar in comparison to the prior year.

Interest Rates

A limited amount of our outstanding debt bears interest based on LIBOR or EURIBOR plus a credit spread. Our effective interest rates, therefore, will move up or down depending on market conditions. The credit spreads are subject to change based on financial performance and market conditions. Interest expense also includes financing fees and related costs and can be affected by foreign currency exchange rate movements upon translating non-U.S. dollar denominated interest expense into U.S. dollars for reporting purposes. The approximate amount of our variable rate debt was $92 million at October 31, 2012, and the weighted average effective interest rate at that time was 4.2%. If interest rates or credit spreads were to increase by 10% (i.e., to approximately 4.6%), our annual income before tax would be reduced by approximately $0.4 million based on the borrowing levels at the end of fiscal 2012.

 

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Item 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

The information required by this item appears beginning on page 43.

Item 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE

None.

Item 9A. CONTROLS AND PROCEDURES

We maintain disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (the “Exchange Act”)) that are designed to ensure that information required to be disclosed in our reports filed under the Exchange Act, is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms, and that such information is accumulated and communicated to our management, including our Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosure. In designing and evaluating the disclosure controls and procedures, management recognized that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives, and management necessarily was required to apply its judgment in evaluating the cost-benefit relationship of possible controls and procedures. Our disclosure controls and procedures are designed to provide a reasonable level of assurance of reaching our desired disclosure control objectives.

We carried out an evaluation under the supervision and with the participation of management, including our Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of our disclosure controls and procedures as of October 31, 2012, the end of the period covered by this report. Based on that evaluation, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures were effective, and were operating at the reasonable assurance level as of October 31, 2012.

There have been no changes in our internal control over financial reporting (as defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) during the quarter and year ended October 31, 2012 that materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

Management’s Annual Report on Internal Control Over Financial Reporting

Internal control over financial reporting refers to the process designed by, or under the supervision of, our Chief Executive Officer and Chief Financial Officer, and effected by our Board of Directors, management and other personnel, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles, and includes those policies and procedures that:

 

   

pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of our assets;

 

   

provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that our receipts and expenditures are being made only in accordance with authorizations of our management and directors; and

 

   

provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of our assets that could have a material effect on the consolidated financial statements.

Internal control over financial reporting cannot provide absolute assurance of achieving financial reporting objectives because of its inherent limitations. Internal control over financial reporting is a process that involves human diligence and compliance and is subject to lapses in judgment and breakdowns resulting from human failures. Internal control over financial reporting also can be circumvented by collusion or improper management override. Because of such limitations, there is a risk that material misstatements may not be prevented or detected on a timely basis by internal control over financial reporting. However, these inherent limitations are known features of the financial reporting process. Therefore, it is possible to design into the process safeguards to reduce, though not eliminate, this risk. Management is responsible for establishing and maintaining adequate internal control over our financial reporting.

 

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Management has used the framework set forth in the report entitled “Internal Control—Integrated Framework” published by the Committee of Sponsoring Organizations (“COSO”) of the Treadway Commission to evaluate the effectiveness of its internal control over financial reporting. Management has concluded that its internal control over financial reporting was effective as of the end of the most recent fiscal year. Deloitte & Touche LLP has issued an attestation report (see below) on our internal control over financial reporting.

The foregoing has been approved by our management, including our Chief Executive Officer and Chief Financial Officer, who have been involved with the assessment and analysis of our internal controls over financial reporting.

 

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REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

To the Board of Directors and Stockholders of

Quiksilver, Inc.

Huntington Beach, California

We have audited the internal control over financial reporting of Quiksilver, Inc. and subsidiaries (the “Company”) as of October 31, 2012, based on criteria established in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission. The Company’s management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting, included in the accompanying Management’s Annual Report on Internal Control Over Financial Reporting. Our responsibility is to express an opinion on the Company’s internal control over financial reporting based on our audit.

We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, testing and evaluating the design and operating effectiveness of internal control based on the assessed risk, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.

A company’s internal control over financial reporting is a process designed by, or under the supervision of, the company’s principal executive and principal financial officers, or persons performing similar functions, and effected by the company’s board of directors, management, and other personnel to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with accounting principles generally accepted in the United States of America. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with accounting principles generally accepted in the United States of America, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.

Because of the inherent limitations of internal control over financial reporting, including the possibility of collusion or improper management override of controls, material misstatements due to error or fraud may not be prevented or detected on a timely basis. Also, projections of any evaluation of the effectiveness of the internal control over financial reporting to future periods are subject to the risk that the controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.

In our opinion, the Company maintained, in all material respects, effective internal control over financial reporting as of October 31, 2012, based on the criteria established in Internal Control — Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission.

We have also audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated financial statements as of and for the year ended October 31, 2012, of the Company and our report dated January 10, 2013, expressed an unqualified opinion on those financial statements.

/s/ Deloitte & Touche LLP

Costa Mesa, California

January 10, 2013

 

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Item 9B. OTHER INFORMATION

None.

 

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PART III

Item 10. DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE

The information required to be included by this item will be included under the headings “Election of Directors,” “Executive Compensation and Other Information,” and “Corporate Governance” in our proxy statement for the 2013 Annual Meeting of Stockholders. Such information is incorporated herein by reference to our proxy statement, which will be filed with the Securities and Exchange Commission within 120 days of our fiscal year ended October 31, 2012.

We have adopted a Code of Ethics for Senior Financial Officers in compliance with applicable rules of the Securities and Exchange Commission that applies to all of our employees, including our principal executive officer, our principal financial officer and our principal accounting officer or controller, or persons performing similar functions. We have posted a copy of this Code of Ethics on our website, at http://www.quiksilverinc.com. We intend to disclose any amendments to, or waivers from, any provision of this Code of Ethics by posting such information on such website.

Item 11. EXECUTIVE COMPENSATION

The information required to be included by this item will be included under the heading “Executive Compensation and Other Information” in our proxy statement for the 2013 Annual Meeting of Stockholders. Such information is incorporated herein by reference to our proxy statement, which will be filed with the Securities and Exchange Commission within 120 days of our fiscal year ended October  31, 2012.

Item 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS

The information required to be included by this item will be included under the heading “Ownership of Securities” in our proxy statement for the 2013 Annual Meeting of Stockholders. Such information is incorporated herein by reference to our proxy statement, which will be filed with the Securities and Exchange Commission within 120 days of our fiscal year ended October 31, 2012.

Item 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE

The information required to be included by this item will be included under the headings “Certain Relationships and Related Transactions” and “Corporate Governance” in our proxy statement for the 2013 Annual Meeting of Stockholders. Such information is incorporated herein by reference to our proxy statement, which will be filed with the Securities and Exchange Commission within 120 days of our fiscal year ended October 31, 2012.

Item 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES

The information required to be included by this item will be included under the heading “Independent Registered Public Accounting Firm” in our proxy statement for the 2013 Annual Meeting of Stockholders. Such information is incorporated herein by reference to our proxy statement, which will be filed with the Securities and Exchange Commission within 120 days of our fiscal year ended October 31, 2012.

 

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PART IV

Item 15. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES

The following documents are filed as part of this Annual Report on Form 10-K:

 

1. Consolidated Financial Statements

See “Index to Consolidated Financial Statements” on page 44.

 

2. Exhibits

The Exhibits listed in the Exhibit Index, which appears immediately following the signature page and is incorporated herein by reference, are filed as part of this Annual Report on Form 10-K.

 

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QUIKSILVER, INC.

INDEX TO CONSOLIDATED FINANCIAL STATEMENTS

 

     Page  
Audited consolidated financial statements of Quiksilver, Inc. as of October 31, 2012 and 2011 and for each of the three years in the period ended October 31, 2012   

Report of Independent Registered Public Accounting Firm

     45   

Consolidated Statements of Operations Years Ended October 31, 2012, 2011 and 2010

     46   

Consolidated Statements of Comprehensive Income/(Loss) Years Ended October 31, 2012, 2011 and 2010

     47   
Consolidated Balance Sheets October 31, 2012 and 2011      48   

Consolidated Statements of Changes in Equity Years Ended October 31, 2012, 2011 and 2010

     49   
Consolidated Statements of Cash Flows Years Ended October 31, 2012, 2011 and 2010      50   

Notes to Consolidated Financial Statements

     51   

 

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REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

To the Board of Directors and Stockholders of

Quiksilver, Inc.

Huntington Beach, California

We have audited the accompanying consolidated balance sheets of Quiksilver, Inc. and subsidiaries (the “Company”) as of October 31, 2012 and 2011, and the related consolidated statements of operations, comprehensive income/(loss), changes in equity, and cash flows for each of the three years in the period ended October 31, 2012. These consolidated financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits.

We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the consolidated financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall consolidated financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.

In our opinion, such consolidated financial statements present fairly, in all material respects, the financial position of the Company as of October 31, 2012 and 2011, and the results of its operations and its cash flows for each of the three years in the period ended October 31, 2012, in conformity with accounting principles generally accepted in the United States of America.

We have also audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the Company’s internal control over financial reporting as of October 31, 2012, based on the criteria established in Internal Control — Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission and our report dated January 10, 2013, expressed an unqualified opinion on the Company’s internal control over financial reporting.

/s/ Deloitte & Touche LLP

Costa Mesa, California

January 10, 2013

 

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QUIKSILVER, INC.

CONSOLIDATED STATEMENTS OF OPERATIONS

Years Ended October 31, 2012, 2011 and 2010

 

In thousands, except per share amounts    2012     2011     2010  

Revenues, net

   $ 2,013,239      $ 1,953,061      $ 1,837,620   

Cost of goods sold

     1,032,893        929,227        870,372   
  

 

 

   

 

 

   

 

 

 

Gross profit

     980,346        1,023,834        967,248   

Selling, general and administrative expense

     916,144        895,949        832,066   

Asset impairments

     7,234        86,373        11,657   
  

 

 

   

 

 

   

 

 

 

Operating income

     56,968        41,512        123,525   

Interest expense, net

     60,823        73,808        114,109   

Foreign currency gain

     (1,669     (111     (5,917
  

 

 

   

 

 

   

 

 

 

(Loss)/income before provision (benefit) for income taxes

     (2,186     (32,185     15,333   

Provision/(benefit) for income taxes

     7,557        (14,315     23,433   
  

 

 

   

 

 

   

 

 

 

Loss from continuing operations

     (9,743     (17,870     (8,100

Income from discontinued operations, net of tax

                   1,830   
  

 

 

   

 

 

   

 

 

 

Net loss

     (9,743     (17,870     (6,270

Less: net income attributable to non-controlling interest

     (1,013     (3,388     (3,414
  

 

 

   

 

 

   

 

 

 

Net loss attributable to Quiksilver, Inc.

   $ (10,756   $ (21,258   $ (9,684
  

 

 

   

 

 

   

 

 

 

Loss per share from continuing operations attributable to Quiksilver, Inc.

   $ (0.07   $ (0.13   $ (0.09
  

 

 

   

 

 

   

 

 

 

Income per share from discontinued operations attributable to Quiksilver, Inc.

   $      $      $ 0.01   
  

 

 

   

 

 

   

 

 

 

Net loss per share attributable to Quiksilver, Inc.

   $ (0.07   $ (0.13   $ (0.07
  

 

 

   

 

 

   

 

 

 

Loss per share from continuing operations attributable to Quiksilver, Inc., assuming dilution

   $ (0.07   $ (0.13   $ (0.09
  

 

 

   

 

 

   

 

 

 

Income per share from discontinued operations attributable to Quiksilver, Inc., assuming dilution

   $      $      $ 0.01   
  

 

 

   

 

 

   

 

 

 

Net loss per share attributable to Quiksilver, Inc., assuming dilution

   $ (0.07   $ (0.13   $ (0.07
  

 

 

   

 

 

   

 

 

 

Weighted average common shares outstanding

     164,245        162,430        135,334   
  

 

 

   

 

 

   

 

 

 

Weighted average common shares outstanding, assuming dilution

     164,245        162,430        135,334   
  

 

 

   

 

 

   

 

 

 

Amounts attributable to Quiksilver, Inc.:

      

Loss from continuing operations

   $ (10,756   $ (21,258   $ (11,514

Income from discontinued operations, net of tax

                   1,830   
  

 

 

   

 

 

   

 

 

 

Net loss

   $ (10,756   $ (21,258   $ (9,684
  

 

 

   

 

 

   

 

 

 

 

See notes to consolidated financial statements.

 

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QUIKSILVER, INC.

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME/(LOSS)

Years Ended October 31, 2012, 2011 and 2010

 

In thousands    2012     2011     2010  

Net loss

   $ (9,743   $ (17,870   $ (6,270

Other comprehensive (loss)/income:

      

Foreign currency translation adjustment

     (43,574     9,295        2,984   

Net gain/(loss) on derivative instruments, net of tax provision/(benefit) of $6,435 (2012), $(3,089) (2011), and $7,334 (2010)

     13,859        (6,850     15,302   
  

 

 

   

 

 

   

 

 

 

Comprehensive (loss)/income

     (39,458     (15,425     12,016   

Comprehensive income attributable to non-controlling interest

     (1,013     (3,388     (3,414
  

 

 

   

 

 

   

 

 

 

Comprehensive (loss)/income attributable to Quiksilver, Inc.

   $ (40,471   $ (18,813   $ 8,602   
  

 

 

   

 

 

   

 

 

 

 

 

See notes to consolidated financial statements.

 

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QUIKSILVER, INC.

CONSOLIDATED BALANCE SHEETS October 31, 2012 and 2011

 

In thousands, except share amounts    2012     2011  

ASSETS

    

Current Assets:

    

Cash and cash equivalents

   $ 41,823      $ 109,753   

Trade accounts receivable, net

     433,743        397,089   

Other receivables

     32,818        23,190   

Income taxes receivable

            4,265   

Inventories

     344,746        347,757   

Deferred income taxes

     26,368        32,808   

Prepaid expenses and other current assets

     26,371        25,429   
  

 

 

   

 

 

 

Total Current Assets

     905,869        940,291   

Fixed assets, net

     238,313        238,107   

Intangible assets, net

     139,449        138,143   

Goodwill

     273,167        268,589   

Other assets

     47,789        55,814   

Deferred income taxes long-term

     113,653        123,279   
  

 

 

   

 

 

 

Total assets

   $ 1,718,240      $ 1,764,223   
  

 

 

   

 

 

 

LIABILITIES AND EQUITY

    

Current Liabilities:

    

Lines of credit

   $ 18,147      $ 18,335   

Accounts payable

     203,572        203,023   

Accrued liabilities

     114,891        132,944   

Current portion of long-term debt

     18,647        4,628   

Income taxes payable

     1,359          
  

 

 

   

 

 

 

Total Current Liabilities

     356,616        358,930   

Long-term debt, net of current portion

     721,175        724,723   

Other long-term liabilities

     38,213        57,948   
  

 

 

   

 

 

 

Total Liabilities

     1,116,004        1,141,601   

Commitments and contingencies — Note 9

    

Equity:

    

Preferred stock, $.01 par value, authorized shares — 5,000,000; issued and outstanding shares — none

              

Common stock, $.01 par value, authorized shares — 285,000,000; issued shares – 169,066,161 (2012) and 168,053,744 (2011)

     1,691        1,681   

Additional paid-in capital

     545,306        531,633   

Treasury stock, 2,885,200 shares

     (6,778     (6,778

Accumulated deficit

     (43,321     (32,565

Accumulated other comprehensive income

     86,412        116,127   
  

 

 

   

 

 

 

Total Quiksilver, Inc. Stockholders’ Equity

     583,310        610,098   

Non-controlling interest

     18,926        12,524   
  

 

 

   

 

 

 

Total Equity

     602,236        622,622   
  

 

 

   

 

 

 

Total liabilities and equity

   $ 1,718,240      $ 1,764,223   
  

 

 

   

 

 

 

See notes to consolidated financial statements.

 

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QUIKSILVER, INC.

CONSOLIDATED STATEMENTS OF CHANGES IN EQUITY

Years Ended October 31, 2012, 2011 and 2010

 

In thousands   Common Stock     Additional
Paid-in
Capital
    Treasury
Stock
    Accumulated
Deficit
    Accumulated
Other
Comprehensive
Income
    Non-
Controlling
Interest
    Total
Equity
 
  Shares     Amounts              

Balance, October 31, 2009

    131,484      $ 1,315      $ 368,285      $ (6,778   $ (1,623   $ 95,396      $ 7,438      $ 464,033   

Exercise of stock options

    713        7        2,730                                    2,737   

Stock compensation expense

                  12,831                                    12,831   

Restricted stock

    3,050        31        (31                                   

Employee stock purchase plan

    509        5        897                                    902   

Common stock issued in debt-for-equity exchange

    31,111        311        131,939                                    132,250   

Transactions with non- controlling interest holders

                  (3,549                          (1,625     (5,174

Net loss and other comprehensive income

                                (9,684     18,286        3,414        12,016   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Balance, October 31, 2010

    166,867      $ 1,669      $ 513,102      $ (6,778   $ (11,307   $ 113,682      $ 9,227      $ 619,595   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Exercise of stock options

    756        8        2,956                                    2,964   

Stock compensation expense

                  14,414                                    14,414   

Restricted stock

    120        1        (1                                   

Employee stock purchase plan

    311        3        1,162                                    1,165   

Transactions with non- controlling interest holders

                                              (91     (91

Net loss and other comprehensive income

                                (21,258     2,445        3,388        (15,425
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Balance, October 31, 2011

    168,054      $ 1,681      $ 531,633      $ (6,778   $ (32,565   $ 116,127      $ 12,524      $ 622,622   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Exercise of stock options

    506        5        1,122                                    1,127   

Stock compensation expense

                  22,552                                    22,552   

Restricted stock

    45                                                    

Employee stock purchase plan

    461        5        1,109                                    1,114   

Transactions with non- controlling interest holders

                  (11,110                          (6,475     (17,585

Business acquisitions

                                              11,864        11,864   

Net loss and other comprehensive (loss)/income

                                (10,756     (29,715     1,013        (39,458
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Balance, October 31, 2012

    169,066      $ 1,691      $ 545,306      $ (6,778   $ (43,321   $ 86,412      $ 18,926      $ 602,236   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

See notes to consolidated financial statements.

 

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QUIKSILVER, INC.

CONSOLIDATED STATEMENTS OF CASH FLOWS

Years Ended October 31, 2012, 2011 and 2010

 

In thousands    2012     2011     2010  

Cash flows from operating activities:

      

Net loss

   $ (9,743   $ (17,870   $ (6,270

Adjustments to reconcile net loss to net cash (used in)/provided by operating activities:

      

Income from discontinued operations

                   (1,830

Depreciation and amortization

     53,232        55,259        53,861   

Stock-based compensation

     22,552        14,414        12,831   

Provision for doubtful accounts

     4,594        8,732        15,307   

Gain on disposal of fixed assets

     (6,366     (5,822     (464

Foreign currency (gain)/loss

     (133     156        (3,078

Asset impairments

     7,234        86,373        11,657   

Non-cash interest expense

     3,685        19,112        56,695   

Equity in earnings

     282        (355     (524

Deferred income taxes

     (8,582     (28,248     8,029   

Changes in operating assets and liabilities, net of the effects of business acquisitions:

      

Trade accounts receivable

     (53,405     (33,985     39,846   

Other receivables

     (204     13,827        (15,049

Inventories

     (4,978     (70,706     4,505   

Prepaid expenses and other current assets

     (5,069     (4,799     7,103   

Other assets

     1,752        (4,586     8,958   

Accounts payable

     1,964        24,839        15,412   

Accrued liabilities and other long-term liabilities

     (5,260     9,320        9,276   

Income taxes payable

     (15,094     (11,512     (16,568
  

 

 

   

 

 

   

 

 

 

Cash (used in)/provided by operating activities of continuing operations

     (13,539     54,149        199,697   

Cash provided by operating activities of discontinued operations

                   3,785   
  

 

 

   

 

 

   

 

 

 

Net cash (used in)/provided by operating activities

     (13,539     54,149        203,482   

Cash flows from investing activities:

      

Capital expenditures

     (66,081     (89,590     (47,797

Business acquisitions, net of acquired cash

     (9,117     (5,578       

Proceeds from the sale of properties and equipment

     8,198        12,546        4,662   

Changes in restricted cash

                   52,706   
  

 

 

   

 

 

   

 

 

 

Net cash (used in)/provided by investing activities

     (67,000     (82,622     9,571   

Cash flows from financing activities:

      

Borrowings on lines of credit

     15,139        30,070        16,581   

Payments on lines of credit

     (12,641     (35,303     (27,021

Borrowings on long-term debt

     140,035        315,330        59,353   

Payments on long-term debt

     (112,841     (284,676     (220,566

Stock option exercises and employee stock purchases

     2,241        4,129        3,639   

Purchase of non-controlling interest

     (11,000            (5,174

Payments of debt and equity issuance costs

            (6,391     (9,573
  

 

 

   

 

 

   

 

 

 

Net cash provided by/(used in) financing activities

     20,933        23,159        (182,761

Effect of exchange rate changes on cash

     (8,324     (5,526     (9,215
  

 

 

   

 

 

   

 

 

 

Net (decrease)/increase in cash and cash equivalents

     (67,930     (10,840     21,077   

Cash and cash equivalents, beginning of year

     109,753        120,593        99,516   
  

 

 

   

 

 

   

 

 

 

Cash and cash equivalents, end of year

   $ 41,823      $ 109,753      $ 120,593   
  

 

 

   

 

 

   

 

 

 

Supplementary cash flow information:

      

Cash paid during the year for:

      

Interest

   $ 54,788      $ 47,055      $ 54,023   
  

 

 

   

 

 

   

 

 

 

Income taxes

   $ 25,733      $ 20,356      $ 15,916   
  

 

 

   

 

 

   

 

 

 

Non-cash investing and financing activities:

      

Capital expenditures accrued at year-end

   $ 6,026      $ 3,246      $ 6,681   
  

 

 

   

 

 

   

 

 

 

Common stock issued in debt-for-equity exchange

   $      $      $ 132,250   
  

 

 

   

 

 

   

 

 

 

See notes to consolidated financial statements.

 

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QUIKSILVER, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

Years Ended October 31, 2012, 2011 and 2010

Note 1 — Significant Accounting Policies

Company Business

Quiksilver, Inc. and its subsidiaries (the “Company”) design, develop and distribute branded apparel, footwear, accessories and related products. The Company’s apparel and footwear brands represent a casual lifestyle for young-minded people that connect with its boardriding culture and heritage. The Company’s Quiksilver, Roxy, DC, Lib Tech and Hawk brands are synonymous with the heritage and culture of surfing, skateboarding and snowboarding. The Company makes snowboarding equipment under its DC, Roxy, Lib Technologies and Gnu labels. The Company’s products are sold in over 90 countries in a wide range of distribution channels, including surf shops, skate shops, snow shops, its proprietary concept stores, other specialty stores and select department stores. Distribution is primarily in the United States, Europe and Australia.

Principles of Consolidation

The accompanying consolidated financial statements include the accounts of Quiksilver, Inc. and subsidiaries, including QS Wholesale, Inc. and subsidiaries (“Quiksilver Americas”), Pilot, SAS and subsidiaries (“Quiksilver EMEA”) and Quiksilver Australia Pty Ltd. and subsidiaries (“Quiksilver APAC”). Intercompany accounts and transactions have been eliminated in consolidation.

Basis of Presentation

The accompanying consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America. References to any particular fiscal year refer to the year ended October 31 of that year (for example, “fiscal 2012” refers to the year ended October 31, 2012).

Cash Equivalents

Certificates of deposit and highly liquid short-term investments purchased with original maturities of three months or less are considered cash equivalents. Carrying values approximate fair value.

Inventories

Inventories are valued at the lower of cost (first-in, first-out and moving average, depending on entity) or market. Management regularly reviews the inventory quantities on hand and adjusts inventory values for excess and obsolete inventory based primarily on estimated forecasts of product demand and market value.

Fixed Assets

Furniture and other equipment, computer equipment, manufacturing equipment and buildings are recorded at cost and depreciated on a straight-line basis over their estimated useful lives, which generally range from two to twenty years. Leasehold improvements are recorded at cost and amortized over their estimated useful lives or related lease term, whichever is shorter. Land use rights for certain leased retail locations are amortized to estimated residual value.

Long-Lived Assets

The Company accounts for the impairment and disposition of long-lived assets in accordance with Accounting Standards Codification (“ASC”) 360, “Property, Plant, and Equipment.” In accordance with ASC 360, management

assesses potential impairments of its long-lived assets whenever events or changes in circumstances indicate that the carrying value of an asset may not be recoverable. An impairment loss is recognized when the carrying value exceeds the undiscounted future cash flows estimated to result from the use and eventual disposition of the asset. The Company recorded approximately $7 million in fixed asset impairments related to its retail stores during fiscal 2012 and $12 million in each of fiscal 2011 and 2010, respectively, to write-down the carrying value to their estimated fair values. Fair value is

 

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determined using a discounted cash flow model which requires “Level 3” inputs, as defined in ASC 820, “Fair Value Measurements and Disclosures.” On an individual retail store basis, these inputs typically include annual revenue growth assumptions ranging from (15)% to 20% per year depending upon the location, life cycle and current economics of a specific store, as well as modest gross margin and expense improvement assumptions. The impairment charges reduced the carrying amounts of the respective long-lived assets as follows:

 

     Year Ended October 31,  
In thousands    2012     2011     2010  

Carrying value of long-lived assets

   $ 7,933      $ 13,592      $ 14,865   

Less: Impairment charges

     (7,234     (12,228     (11,657
  

 

 

   

 

 

   

 

 

 

Fair value of long-lived assets

   $ 699      $ 1,364      $ 3,208   
  

 

 

   

 

 

   

 

 

 

Goodwill and Intangible Assets

The Company accounts for goodwill and intangible assets in accordance with ASC 350, “Intangibles—Goodwill and Other.” Under ASC 350, goodwill and intangible assets with indefinite lives are not amortized but are tested for impairment annually and also in the event of an impairment indicator. The annual impairment test is a fair value test as prescribed by ASC 350 which includes assumptions such as projected annual revenue growth ranging from 0% to 8% per year, annual gross margin improvements ranging from 0 to 230 basis points per year, and SG&A expense improvements ranging from 0 to 310 basis points per year as a percentage of net revenues, and discount rates. No goodwill impairments were recorded in fiscal 2012. However, due to the natural disasters that occurred in the Company’s APAC reporting unit during the first half of fiscal 2011 and their resulting impact on the Company’s business, the Company recorded a goodwill impairment charge of approximately $74 million in fiscal 2011.

As of October 31, 2012, the fair value of the Americas reporting unit substantially exceeded its carrying value. The fair values of the EMEA and APAC reporting units exceeded their carrying values by 6% and 5%, respectively. Goodwill amounted to $191 million for EMEA and $6 million for APAC as of October 31, 2012. Based on the uncertainty of future revenue growth rates, gross profit and expense performance, and other assumptions used to estimate goodwill recoverability in the Company’s reporting units, future reductions in the Company’s expected cash flows for a reporting unit as a result of any variation between projected and actual results could cause a material impairment of goodwill.

Revenue Recognition

Revenues are recognized upon the transfer of title and risk of ownership to customers. Allowances for estimated returns and doubtful accounts are provided when revenues are recorded. Returns and allowances are reported as reductions in revenues, whereas allowances for bad debts are reported as a component of selling, general and administrative expense. Royalty income is recorded as earned. The Company performs ongoing credit evaluations of its customers and generally does not require collateral.

Revenues in the Consolidated Statements of Operations include the following:

 

     Year Ended October 31,  
In thousands    2012      2011      2010  

Product sales, net

   $ 1,993,668       $ 1,926,941       $ 1,825,807   

Royalty income

     19,571         26,120         11,813   
  

 

 

    

 

 

    

 

 

 
   $ 2,013,239       $ 1,953,061       $ 1,837,620   
  

 

 

    

 

 

    

 

 

 

Promotion and Advertising

The Company’s promotion and advertising efforts include athlete sponsorships, world-class boardriding contests, websites, magazine advertisements, retail signage, television programs, co-branded products, surf camps, social media and other events. For fiscal 2012, 2011 and 2010, these expenses totaled $111 million, $124 million and $107 million, respectively. Advertising costs are expensed when incurred.

 

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Income Taxes

The Company accounts for income taxes using the asset and liability approach as promulgated by the authoritative guidance included in ASC 740, “Income Taxes.” Deferred income tax assets and liabilities are established for temporary differences between the financial reporting bases and the tax bases of the Company’s assets and liabilities at tax rates expected to be in effect when such assets or liabilities are realized or settled. Deferred income tax assets are reduced by a valuation allowance if, in the judgment of the Company’s management, it is more likely than not that such assets will not be realized.

ASC 740 also clarifies the accounting for uncertainty in income taxes recognized in the financial statements. This guidance provides that a tax benefit from an uncertain tax position may be recognized when it is more likely than not that the position will be sustained upon examination, including resolutions of any related appeals or litigation processes, based on the technical merits of the tax position. The Company recognizes accrued interest and penalties related to unrecognized tax benefits as a component of its provision for income taxes. The application of this guidance can create significant variability in the effective tax rate from period to period based upon changes in or adjustments to the Company’s uncertain tax positions.

Stock-Based Compensation Expense

The Company recognizes compensation expense for all stock-based payments net of an estimated forfeiture rate and only recognizes compensation cost for those shares expected to vest using the graded vested method over the requisite service period of the award. For option valuations, the Company determines the fair value at the grant date using the Black-Scholes option-pricing model which requires the input of certain assumptions, including the expected life of the stock-based payment awards, stock price volatility and interest rates. For performance based equity awards with stock price contingencies, the Company determines the fair value using a Monte-Carlo simulation, which creates a normal distribution of future stock prices, which is then used to value the awards based on their individual terms.

Net Loss per Share

The Company reports basic and diluted earnings per share (“EPS”). Basic EPS is based on the weighted average number of shares outstanding during the period, while diluted EPS additionally includes the dilutive effect of the Company’s outstanding stock options, warrants and shares of restricted stock computed using the treasury stock method.

The table below sets forth the reconciliation of the denominator of each net loss per share calculation:

 

     Fiscal year ended
October 31,
 
In thousands    2012      2011      2010  

Shares used in computing basic net loss per share

     164,245         162,430         135,334   

Dilutive effect of stock options and restricted stock(1)

                       

Dilutive effect of stock warrants(1)

                       
  

 

 

    

 

 

    

 

 

 

Shares used in computing diluted net income per share

     164,245         162,430         135,334   
  

 

 

    

 

 

    

 

 

 

 

(1) 

For fiscal 2012, 2011 and 2010, the shares used in computing diluted net loss per share do not include 3,103,000,4,887,000, and 4,099,000 dilutive stock options and shares of restricted stock, respectively, nor 11,559,000, 14,732,000, and 12,521,000 dilutive warrant shares respectively, as the effect is anti-dilutive given the Company’s loss. For fiscal 2012, 2011 and 2010, additional stock options outstanding of 10,559,000, 10,862,000, and 11,474,000, respectively, and additional warrant shares outstanding of 14,095,000, 10,922,000, and 13,133,000, respectively, were excluded from the calculation of diluted EPS, as their effect would have been anti-dilutive based on the application of the treasury stock method.

Foreign Currency and Derivatives

The Company’s reporting currency is the U.S. dollar, while Quiksilver EMEA’s functional currency is primarily the euro, and Quiksilver APAC’s functional currencies are primarily the Australian dollar and the Japanese yen. Assets

 

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and liabilities of the Company denominated in foreign currencies are translated at the rate of exchange on the balance sheet date. Revenues and expenses are translated using the average exchange rate for the period.

Derivative financial instruments are recognized as either assets or liabilities on the balance sheet and are measured at fair value. The accounting for changes in the fair value of a derivative depends on the use and type of the derivative. The Company’s derivative financial instruments principally consist of foreign currency exchange rate contracts, which the Company uses to manage its exposure to the risk of changes in foreign currency exchange rates. The Company’s objectives are to reduce the volatility of earnings and cash flows associated with changes in foreign currency exchange rates. The Company does not enter into derivative financial instruments for speculative or trading purposes.

Comprehensive Income or Loss

Comprehensive income or loss includes all changes in stockholders’ equity except those resulting from investments by, and distributions to, stockholders. Accordingly, the Company’s Consolidated Statements of Comprehensive Income/(Loss) include its net loss, the foreign currency adjustments that arise from the translation of the financial statements of Quiksilver EMEA, Quiksilver APAC and the foreign entities within the Americas segment into U.S. dollars, and fair value gains and losses on certain derivative instruments.

Use of Estimates

The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions. Such estimates and assumptions affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements, and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.

Fair Value of Financial Instruments

The carrying value of the Company’s trade accounts receivable and accounts payable approximates fair value due to their short-term nature. For fair value disclosures related to the Company’s cash and debt, see the section above entitled, “Cash Equivalents” and note 7, respectively.

New Accounting Pronouncements

In June 2011, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) 2011-05, “Presentation of Comprehensive Income.” ASU 2011-05 requires the components of net income and other comprehensive income to be either presented in one continuous statement, referred to as the statement of comprehensive income, or in two separate, but consecutive statements. An entity is also required to present on the face of the financial statements reclassification adjustments for items that are reclassified from other comprehensive income to net income in the statement(s) where the components of net income and the components of other comprehensive income are presented. While the new guidance changes the presentation of comprehensive income, there are no changes to the components that are recognized in net income or other comprehensive income under current accounting guidance. This new guidance is effective for the Company beginning November 1, 2012 and requires retrospective application. As this guidance only amends the presentation of the components of comprehensive income, the adoption will not have an impact on the Company’s consolidated financial position or results of operations.

In September 2011, the FASB issued ASU 2011-08, “Testing Goodwill for Impairment.” ASU 2011-08 allows entities testing goodwill for impairment the option of performing a qualitative assessment to determine the likelihood of goodwill impairment and whether it is necessary to perform the two-step impairment test currently required. The updated guidance is effective for the Company on November 1, 2012, however early adoption is permitted. Based on the Company’s evaluation of this ASU, the adoption of this standard is not expected to have a material impact on the Company’s consolidated financial position or results of operations.

 

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Note 2 — Business Acquisitions

The Company paid cash of approximately $9 million during fiscal 2012 to expand its e-commerce business and $6 million during fiscal 2011 related to business acquisitions that are not considered material to consolidated results of operations.

Note 3 — Allowance for Doubtful Accounts

The allowance for doubtful accounts, which includes bad debts as well as sales returns and allowances, consisted of the following as of the dates indicated:

 

     Year Ended October 31,  
In thousands    2012     2011     2010  

Balance, beginning of year

   $ 48,670      $ 48,043      $ 47,211   

Provision for doubtful accounts

     4,594        8,732        15,307   

Deductions

     (8,117     (8,105     (14,475
  

 

 

   

 

 

   

 

 

 

Balance, end of year

   $ 45,147      $ 48,670      $ 48,043   
  

 

 

   

 

 

   

 

 

 

The provision for doubtful accounts represents charges to selling, general and administrative expense for estimated bad debts, whereas the provision for sales returns and allowances is reported as a reduction of revenues.

Note 4 — Inventories, net

Inventories consisted of the following as of the dates indicated:

 

     October 31,  
In thousands    2012      2011  

Raw materials

   $ 6,736       $ 9,130   

Work in process

     1,969         2,647   

Finished goods

     336,041         335,980   
  

 

 

    

 

 

 
   $ 344,746       $ 347,757   
  

 

 

    

 

 

 

Note 5 — Fixed Assets, net

Fixed assets consisted of the following as of the dates indicated:

 

     October 31,  
In thousands    2012     2011  

Furniture & other equipment(1)

   $ 158,406      $ 160,559   

Leasehold improvements, gross(1)

     137,370        167,149   

Computer software & equipment(1)

     109,138        107,238   

Land use rights

     34,953        40,213   

Land and buildings(1)

     9,459        2,492   

Construction in progress(1)

     22,428        15,723   
  

 

 

   

 

 

 
     471,754        493,374   

Accumulated depreciation and amortization

     (233,441     (255,267
  

 

 

   

 

 

 
   $ 238,313      $ 238,107   
  

 

 

   

 

 

 

 

(1) 

Certain prior year amounts have been reclassified to “Construction in progress” in order to be consistent with the current year presentation.

 

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During fiscal 2012, 2011 and 2010, the Company recorded approximately $7 million, $12 million and $12 million, respectively, in fixed asset impairments, primarily related to underperforming retail stores. These stores were not generating positive cash flows and are not expected to become profitable in the future. As a result, the Company is working to close these stores as soon as practicable. Any charges associated with future rent commitments, net of expected sublease income, will be charged to future earnings upon store closure.

Note 6 — Intangible Assets and Goodwill

A summary of intangible assets as of the dates indicated is as follows:

 

     October 31,  
     2012      2011  
In thousands    Gross
Amount
     Amorti-
zation
    Net Book
Value
     Gross
Amount
     Amorti-
zation
    Net Book
Value
 

Non-amortizable trademarks

   $ 124,053       $      $ 124,053       $ 123,151       $      $ 123,151   

Amortizable trademarks

     23,543         (10,866     12,677         20,174         (9,782     10,392   

Amortizable licenses

     13,919         (13,803     116         14,380         (12,822     1,558   

Other amortizable intangibles

     8,083         (5,480     2,603         9,029         (5,987     3,042   
  

 

 

    

 

 

   

 

 

    

 

 

    

 

 

   

 

 

 
   $ 169,598       $ (30,149   $ 139,449       $ 166,734       $ (28,591   $ 138,143   
  

 

 

    

 

 

   

 

 

    

 

 

    

 

 

   

 

 

 

The change in non-amortizable trademarks is due primarily to foreign currency exchange fluctuations. Other amortizable intangibles primarily include non-compete agreements, patents and customer relationships. These amortizable intangibles are amortized on a straight-line basis over their estimated useful lives. Certain trademarks and licenses will continue to be amortized using estimated useful lives of 10 to 25 years with no residual values. Intangible amortization expense was approximately $3 million for each of fiscal 2012, 2011, and 2010. Based on the Company’s amortizable intangible assets as of October 31, 2012, annual amortization expense is estimated to be approximately $2 million in fiscal 2013 through fiscal 2017.

Due to the natural disasters that occurred in the Asia/Pacific region and their resulting impact on the Company’s business, the Company remeasured the value of its intangible assets in its APAC segment in fiscal 2011 in accordance with ASC 350. As a result, the Company noted that the carrying value of these assets was in excess of their estimated fair value, and therefore, the Company recorded related goodwill impairment charges of approximately $74 million during fiscal 2011. The fair value of assets was estimated using a combination of a discounted cash flow approach and market approach. The value implied by the test was affected by (1) a reduction in near-term future cash flows expected for the APAC segment, (2) the discount rates which were applied to future cash flows, and (3) current market estimates of value. The projected future cash flows, discount rates applied and current estimates of market value have all been impacted by the aforementioned natural disasters that occurred throughout the Asia/Pacific region, contributing to the estimated decline in value. Goodwill in the APAC segment arose primarily from the acquisition of the Company’s Australian and Japanese distributors and certain Australian retail store locations several years ago.

Goodwill recorded by the Company arose primarily from the acquisitions of Quiksilver EMEA, Quiksilver APAC and DC Shoes, Inc. (see note 14 for information on goodwill by segment). Goodwill increased approximately $5 million during fiscal 2012, primarily due to a small business acquisition by Quiksilver EMEA partially offset by the effect of changes in foreign currency exchange rates. For fiscal 2011, goodwill decreased approximately $64 million, primarily due to the APAC goodwill impairment charge of $74 million partially offset by increases from acquisitions and foreign currency exchange rates.

 

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Note 7 — Lines of Credit and Long-term Debt

A summary of lines of credit and long-term debt as of the dates indicated is as follows:

 

     October 31,  
In thousands    2012      2011  

APAC Credit Facility

   $ 18,147       $ 18,335   

Americas Credit Facility

     46,700         21,042   

Americas Term Loan

     15,500         18,500   

EMEA lines of credit

     7,742         2,306   

Senior Notes

     400,000         400,000   

European Senior Notes

     258,732         282,925   

Capital lease obligations and other borrowings

     11,148         4,578   
  

 

 

    

 

 

 
   $ 757,969       $ 747,686   
  

 

 

    

 

 

 

At October 31, 2012, the Company’s credit facilities allowed for total maximum cash borrowings and letters of credit of $360 million. The total maximum borrowings and actual availability fluctuate with the amount of assets comprising the borrowing base under certain of the credit facilities. At October 31, 2012, the Company had a total of $73 million of direct borrowings and $86 million in letters of credit outstanding. The amount of availability for borrowings remaining as of October 31, 2012 was $154 million, $71 million of which could also be used for letters of credit in the United States. In addition to the $154 million of availability for borrowings, the Company also had $47 million in additional capacity for letters of credit in EMEA and APAC as of October 31, 2012. A description of each of the Company’s credit arrangements in the table above follows:

APAC Credit Facility:

In September 2011, the Company entered into a new $21 million ($20 million Australian dollars) credit facility specifically for APAC operations. The maturity date of this credit facility is October 31, 2013. Combined with certain remaining uncommitted borrowings, APAC has $31 million of aggregate borrowing capacity. At October 31, 2012, there were $18 million of direct borrowings (at an average interest rate of 5.3%) and $8 million in letters of credit outstanding. This facility contains customary default provisions and restrictive covenants for facilities of its type. As of October 31, 2012, the Company was in compliance with such covenants.

Americas Credit Facility:

In July 2009, the Company entered into a $200 million asset-based credit facility for its Americas’ operations. On August 27, 2010, the Company entered into an amendment to this credit facility (as amended, the “Americas Credit Facility”). The Americas Credit Facility is a $150 million facility (with the option to expand the facility to $250 million on certain conditions) and the amendment, among other things, extended the maturity date of the Americas Credit Facility to August 27, 2014. The Americas Credit Facility includes a $103 million sublimit for letters of credit and bears interest at a rate of LIBOR plus a margin of 2.5% to 3.0% (currently at 4.4%), depending upon usage. At October 31, 2012, there were $47 million of direct borrowings and $31 million in letters of credit outstanding under the Americas Credit Facility.

The Americas Credit Facility is guaranteed by Quiksilver, Inc. and certain of its domestic and Canadian subsidiaries. The Americas Credit Facility is secured by a first priority interest in the Company’s U.S. and Canadian accounts receivable, inventory, certain intangibles, a second priority interest in substantially all other personal property and a second priority pledge of shares of certain of its domestic subsidiaries. The borrowing base is limited to certain percentages of eligible accounts receivable and inventory from participating subsidiaries. The Americas Credit Facility contains customary default provisions, including cross default provisions against the Americas Term Loan and other material indebtedness, and restrictive covenants for facilities of its type. As of October 31, 2012, the Company was in compliance with such covenants in the Americas Credit Facility and had obtained a waiver for one covenant in the Americas Term Loan where we were not in compliance.

 

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Americas term loan:

In October 2010, the Company entered into a $20 million term loan for its Americas’ operations. The maturity date of this term loan is August 27, 2014. The term loan has minimum principal repayments of $1.5 million due on June 30 and December 31 of each year, until the principal balance is reduced to $14 million. The term loan bears interest at LIBOR plus 5.0% (currently 5.3%). The term loan is guaranteed by Quiksilver, Inc. and secured by a first priority interest in substantially all assets, excluding accounts receivable and inventory, of certain of its domestic subsidiaries and a second priority interest in the accounts receivable and inventory of certain of its domestic subsidiaries, in which the lenders under the Americas Credit Facility have a first-priority security interest. The term loan contains customary default provisions and restrictive covenants for loans of its type. As of October 31, 2012, the Company was in compliance with certain of these covenants and obtained the appropriate waiver for one covenant where we were not in compliance. The balance outstanding on the Americas term loan at October 31, 2012 was $15.5 million.

EMEA lines of credit:

The Company has various lines of credit from several banks in Europe that provide up to $89 million of available capacity for borrowings and an additional $89 million of available capacity for letters of credit. At October 31, 2012, there were $8 million of direct borrowings (at an average borrowing rate of 1%) and $47 million in letters of credit outstanding under these lines of credit.

Senior Notes:

In July 2005, the Company issued the Senior Notes, which bear a coupon interest rate of 6.875%, were issued at par value, and are due April 15, 2015. The Senior Notes are guaranteed on a senior unsecured basis by each of the Company’s domestic subsidiaries that guarantee any of its indebtedness or its subsidiaries’ indebtedness, or are obligors under the Americas Credit Facility (the “Guarantors”). The Company may redeem some or all of the Senior Notes at fixed redemption prices as set forth in the indenture related to such Senior Notes.

The Senior Notes indenture includes covenants that limit the Company’s ability to, among other things: incur additional debt; pay dividends on its capital stock or repurchase its capital stock; make certain investments; enter into certain types of transactions with affiliates; cause its restricted subsidiaries to pay dividends or make other payments to the Company; use assets as security in other transactions; and sell certain assets or merge with or into other companies. If the Company experiences a change of control (as defined in the indenture), it will be required to offer to purchase the Senior Notes at a purchase price equal to 101% of their principal amount, plus accrued and unpaid interest. As of October 31, 2012, the Company was in compliance with these covenants. In addition, the Company has approximately $3 million in unamortized debt issuance costs related to the Senior Notes included in other assets as of October 31, 2012.

European Senior Notes:

In December 2010, the Company issued the European Senior Notes, which bear a coupon interest rate of 8.875% and are due December 15, 2017. The European Senior Notes were issued at par value in a private offering that was exempt from the registration requirements of the Securities Act of 1933, as amended (the “Securities Act”). The European Senior Notes were offered within the United States only to qualified institutional buyers in accordance with Rule 144A under the Securities Act and outside the United States only to non-U.S. investors in accordance with Regulation S under the Securities Act. The European Senior Notes will not be registered under the Securities Act or the securities laws of any other jurisdiction.

The European Senior Notes are general senior obligations and are fully and unconditionally guaranteed on a senior unsecured basis by Quiksilver, Inc. and certain of its current and future U.S. and non-U.S. subsidiaries, subject to certain exceptions. The Company may redeem some or all of the European Senior Notes at fixed redemption prices as set forth in the indenture related to such European Senior Notes. The European Senior Notes indenture includes covenants that limit the Company’s ability to, among other things: incur additional debt; pay dividends on its capital stock or repurchase its capital stock; make certain investments; enter into certain types of transactions with

 

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affiliates; cause its restricted subsidiaries to pay dividends or make other payments to Quiksilver, Inc.; use assets as security in other transactions; and sell certain assets or merge with or into other companies. As of October 31, 2012, the Company was in compliance with these covenants.

The Company used the proceeds from the European Senior Notes to repay its then existing European term loans and to pay related fees and expenses. As a result, the Company recognized non-cash, non-operating charges during the fiscal year ended October 31, 2011 of approximately $14 million, included in interest expense, to write-off the deferred debt issuance costs related to such term loans. The Company capitalized approximately $6 million of debt issuance costs associated with the issuance of the European Senior Notes, which are being amortized into interest expense over the seven-year term of the European Senior Notes.

In July 2009, the Company entered into the $153 million five-year senior secured term loans with Rhône Capital LLC (“Rhône”). In connection with these term loans, the Company issued warrants to purchase approximately 25.7 million shares of its common stock, representing 19.99% of the outstanding equity of the Company at the time, with an exercise price of $1.86 per share. In June 2010, the Company entered into a debt-for-equity exchange agreement with Rhône. Pursuant to such agreement, a combined total of $140 million of principal balance outstanding under the Rhône senior secured term loans was exchanged for 31.1 million shares of the Company’s common stock, which represents an exchange price of $4.50 per share. The exchange closed in August 2010, which reduced the outstanding balance under the Rhône senior secured term loans to approximately $24 million. Upon closing of the $20 million term loan in its Americas segment, the Company used the proceeds from such term loan, together with cash on hand, to repay the remaining amounts outstanding under the Rhône senior secured term loans. As a result of the debt-for-equity exchange and the subsequent repayment of the remaining amounts outstanding under the Rhône senior secured term loans, the Company recognized approximately $33 million in interest expense during fiscal 2010 to write-off the deferred debt issuance costs capitalized in connection with the issuance of the Rhône senior secured term loans, as well as the debt discount recorded upon the issuance of the warrants associated with such senior secured term loans.

The Company also had approximately $11 million in capital leases and other borrowings as of October 31, 2012.

Principal payments on all long-term debt obligations, including capital leases, are due by fiscal year according to the table below.

 

In thousands       

2013

   $ 36,794   

2014

     60,934   

2015

     400,510   

2016

     999   

2017

       

Thereafter

     258,732   
  

 

 

 
   $ 757,969   
  

 

 

 

The estimated fair values of the Company’s lines of credit and long-term debt are as follows:

 

     October 31, 2012  
In thousands    Carrying
Amount
     Fair Value  

Lines of credit

   $ 18,147       $ 18,147   

Long-term debt

     739,822         737,525   
  

 

 

    

 

 

 
   $ 757,969       $ 755,672   
  

 

 

    

 

 

 

The fair value of the Company’s long-term debt is calculated based on the market price of the Company’s publicly traded Senior Notes, the trading price of the Company’s European Senior Notes and the carrying values of the Company’s other debt obligations.

 

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Note 8 — Accrued Liabilities

Accrued liabilities consisted of the following as of the dates indicated:

 

     October 31,  
In thousands    2012      2011  

Accrued employee compensation and benefits

   $ 57,251       $ 56,236   

Accrued sales and payroll taxes

     11,988         14,187   

Accrued interest

     10,264         10,782   

Derivative liability

     3,860         12,297   

Other liabilities

     31,528         39,442   
  

 

 

    

 

 

 
   $ 114,891       $ 132,944   
  

 

 

    

 

 

 

Note 9 — Commitments and Contingencies

Operating Leases

The Company leases certain land and buildings under long-term operating lease agreements. The following is a schedule of future minimum lease payments by fiscal year required under such leases as of October 31, 2012:

 

In thousands       

2013

   $ 101,720   

2014

     87,632   

2015

     71,949   

2016

     58,536   

2017

     40,684   

Thereafter

     99,152   
  

 

 

 
   $ 459,673   
  

 

 

 

Total rent expense was approximately $135 million in fiscal 2012 and $127 million in each of fiscal 2011 and 2010.

Professional Athlete Sponsorships

The Company establishes relationships with professional athletes in order to promote its products and brands. The Company has entered into endorsement agreements with professional athletes in sports such as surfing, skateboarding, snowboarding, BMX and motocross. Many of these contracts provide incentives for magazine exposure and competitive victories while wearing or using the Company’s products. Such expenses are an ordinary part of the Company’s operations and are expensed as incurred. The following is a schedule of future estimated minimum payments required under such endorsement agreements as of October 31, 2012:

 

In thousands       

2013

   $ 29,184   

2014

     20,610   

2015

     13,409   

2016

     8,985   

2017

     5,679   

Thereafter

     137   
  

 

 

 
   $ 78,004   
  

 

 

 

 

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Litigation

As part of its global operations, the Company may be involved in legal claims involving trademarks, intellectual property, licensing, employment matters, compliance, contracts and other matters incidental to its business. The Company believes the resolution of any such matter currently threatened or pending will not have a material adverse effect on its financial condition, results of operations or liquidity.

Indemnities and Guarantees

During its normal course of business, the Company has made certain indemnities, commitments and guarantees under which it may be required to make payments in relation to certain transactions. These include (i) intellectual property indemnities to the Company’s customers and licensees in connection with the use, sale and/or license of Company products, (ii) indemnities to various lessors in connection with facility leases for certain claims arising from such facilities or leases, (iii) indemnities to vendors and service providers pertaining to claims based on the negligence or willful misconduct of the Company, and (iv) indemnities involving the accuracy of representations and warranties in certain contracts. The duration of these indemnities, commitments and guarantees varies and, in certain cases, may be indefinite. The majority of these indemnities, commitments and guarantees do not provide for any limitation of the maximum potential for future payments the Company could be obligated to make. The Company has not recorded any liability for these indemnities, commitments and guarantees in the accompanying consolidated balance sheets.

Note 10 — Stockholders’ Equity

In March 2000, the Company’s stockholders approved the Company’s 2000 Stock Incentive Plan (the “2000 Plan”), which generally replaced the Company’s previous stock option plans. Under the 2000 Plan as amended, 43,744,836 shares are reserved for issuance over its term, consisting of 12,944,836 shares authorized under predecessor plans plus an additional 30,800,000 shares. The plan was amended in March 2007 to allow for the issuance of restricted stock and restricted stock units. The maximum number of shares that may be reserved for issuance of restricted stock or restricted stock unit awards is 11,100,000. Nonqualified and incentive options may be granted to officers and employees selected by the plan’s administrative committee at an exercise price not less than the fair market value of the underlying shares on the date of grant. Options vest over a period of time, generally three years, as designated by the committee and are subject to such other terms and conditions as the committee determines. The Company issues new shares for stock option exercises and restricted stock grants.

For non-performance based options, the Company uses the Black-Scholes option-pricing model to value stock-based compensation expense. Forfeitures are estimated at the date of grant based on historical rates and reduce the compensation expense recognized. The expected term of options granted is derived from historical data on employee exercises. The risk-free interest rate is based on the U.S. Treasury yield curve in effect at the date of grant. Expected volatility is based on the historical volatility of the Company’s stock. The fair value of each option grant was estimated as of the grant date using the Black-Scholes option-pricing model for the years ended October 31, 2012, 2011, and 2010, assuming risk-free interest rates of 1.1%, 1.9%, and 2.7%, respectively; volatility of 76.5%, 82.4%, and 73.6%, respectively; zero dividend yield; and expected lives of 7.1 years, 5.3 years, and 6.4 years, respectively. The weighted average fair value of options granted was $2.58, $3.39, and $1.04 for the years ended October 31, 2012, 2011, and 2010, respectively. The Company records stock-based compensation expense using the graded vested method over the vesting period, which is generally three years. As of October 31, 2012, the Company had approximately $2 million of unrecognized compensation expense, for non-performance based options, expected to be recognized over a weighted average period of approximately 1.5 years. Compensation expense was included as selling, general and administrative expense for fiscal 2012, 2011, and 2010.

 

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Changes in shares under option, excluding performance based options, are summarized as follows:

 

     Year Ended October 31,  
     2012      2011      2010  
In thousands    Shares     Weighted
Average
Price
     Shares     Weighted
Average
Price
     Shares     Weighted
Average
Price
 

Outstanding, beg. of year

     13,399,381      $ 4.40         12,731,430      $ 4.48         15,909,101      $ 7.32   

Granted

     375,000        3.66         2,315,000        5.01         4,403,407        3.83   

Exercised

     (506,329     2.23         (757,538     3.92         (713,062     3.84   

Canceled/Forfeited

     (942,553     4.08         (889,511     7.63         (6,868,016     10.69   
  

 

 

      

 

 

      

 

 

   

Outstanding, end of year

     12,325,499        4.49         13,399,381        4.40         12,731,430        4.48   
  

 

 

      

 

 

      

 

 

   

Exercisable, end of year

     7,903,327        4.94         6,042,873        5.64         4,892,680        6.70   
  

 

 

      

 

 

      

 

 

   

The aggregate intrinsic value of options exercised, outstanding and exercisable as of October 31, 2012 is $1 million, $6 million and $4 million, respectively. The weighted average life of options outstanding and exercisable as of October 31, 2012 is 5.2 years and 4.2 years, respectively.

Outstanding stock options, excluding performance based options, at October 31, 2012 consist of the following:

 

     Options Outstanding      Options Exercisable  

Range of Exercise Prices

   Shares      Weighted
Average
Remaining
Life
     Weighted
Average
Exercise
Price
     Shares      Weighted
Average

Exercise
Price
 
            (Years)                       

$1.04 - $2.34

     3,490,755         6.1       $ 1.97         2,424,005       $ 1.99   

$2.35 - $4.60

     2,706,750         7.2         3.07         1,392,489         3.24   

$4.61 - $6.64

     3,684,156         5.6         5.10         1,642,995         5.11   

$6.65 - $8.70

     1,074,338         0.3         6.83         1,074,338         6.83   

$8.71 - $10.75

     962,000         2.0         8.87         962,000         8.87   

$10.76 - $16.36

     407,500         1.9         13.43         407,500         13.43   
  

 

 

          

 

 

    
     12,325,499         5.2         4.49         7,903,327         4.94   
  

 

 

          

 

 

    

Changes in non-vested shares under option, excluding performance based options, for the year ended October 31, 2012 are as follows:

 

     Shares     Wtd. Avg.
Grant Date

Fair Value
 

Non-vested, beginning of year

     7,356,508      $ 1.81   

Granted

     375,000        2.58   

Vested

     (3,176,993     1.72   

Canceled

     (132,343     2.41   
  

 

 

   

Non-vested, end of year

     4,422,172        1.92   
  

 

 

   

Of the 4.4 million non-vested shares under option as of October 31, 2012, approximately 4.3 million are expected to vest over their respective lives.

As of October 31, 2012, there were 2,359,606 shares of common stock that were available for future grant. Of these shares, 2,141,295 were available for issuance of restricted stock.

In April 2010, the Company commenced a tender offer for employees and consultants of the Company, other than the Company’s executive officers and members of its board of directors, to exchange some or all of their outstanding eligible stock options to purchase shares of the Company’s common stock for new stock options with

 

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a lower exercise price. Eligible stock options were those with an exercise price greater than $7.71 per share and granted prior to October 19, 2008. The terms of the offer were such that an eligible optionee would receive one new stock option for every one and one-half surrendered stock options with an exercise price of $7.72 to $10.64 per share and one new stock option for every two surrendered stock options with an exercise price of $10.65 per share and above. These exchange ratios were designed so that the stock compensation expense associated with the new options to be granted, calculated using the Black-Scholes option-pricing model, was equal to the unrecognized compensation expense on the options to be surrendered. Pursuant to the tender offer, 3,754,352 eligible stock options were surrendered. On May 18, 2010, the Company granted an aggregate of 2,058,007 new stock options in exchange for the eligible stock options surrendered, at an exercise price of $5.08 per share, which was the closing price of the Company’s common stock on that date. The remaining 1,696,345 canceled shares are not eligible for re-grant.

In June 2011, the Company granted performance based options and performance based restricted stock units to certain key employees and executives. In addition to a required service period, the vesting of the options is contingent upon a combination of the Company’s achievement of specified annual performance targets and specified common stock price thresholds, while the vesting of the restricted stock units is contingent upon a required service period as well as the Company’s achievement of a specified common stock price threshold. The Company believes that the granting of these awards serves to further align the interests of its employees and executives with those of its stockholders. Based on the vesting contingencies in the awards, the Company used a Monte-Carlo simulation in order to determine the grant date fair values of the awards. The assumptions used in the Monte-Carlo simulation for the options and restricted stock units included a risk-free interest rate of 3.0% and 1.7%, respectively, volatility of 67.3% and 82.0%, respectively, and zero dividend yield. The exercise price of the performance based options is $4.65. Additionally, the options were assumed to be voluntarily exercised, or canceled if underwater, at the midpoint of vesting and the contractual term. The weighted average fair value of the options was $3.21 and the weighted average fair value of the restricted stock units was $3.88.

In 2012, the Company granted additional performance based restricted stock units. The Company used a Monte-Carlo simulation to determine the grant date fair values of the awards. The assumptions used in the Monte-Carlo simulation for the restricted stock units included risk-free interest rates of 0.7% and 0.6%, volatility of 91.4% and 93.1%, and zero dividend yield. The weighted average fair value of all restricted stock units granted during 2012 was $2.27.

Activity related to performance based options and performance based restricted stock units for the fiscal year ended October 31, 2012 is as follows:

 

     Performance
Options
    Performance
Restricted
Stock Units
 

Non-vested, October 31, 2011

     936,000        7,520,000   

Granted

            1,100,000   

Vested

              

Canceled

     (80,000     (690,625
  

 

 

   

 

 

 

Non-vested, October 31, 2012

     856,000        7,929,375   
  

 

 

   

 

 

 

As of October 31, 2012, the Company had approximately $2 million and $5 million of unrecognized compensation expense, net of estimated forfeitures, related to the performance options and the performance restricted stock units, respectively. This unrecognized compensation expense is expected to be recognized over a weighted average period of approximately 2.9 years and 0.8 years, respectively.

In March 2006, the Company’s stockholders approved the 2006 Restricted Stock Plan and in March 2007, the Company’s stockholders approved an amendment to the 2000 Stock Incentive Plan whereby restricted stock and restricted stock units can be issued from such plan. Stock issued under these plans generally vests from three to five years. In March 2010, the Company’s stockholders approved a grant of 3 million shares of restricted stock to a Company sponsored athlete, Kelly Slater. In accordance with the terms of the related restricted stock agreement,

 

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2,400,000 shares have already vested, with the remaining 600,000 shares to vest in April 2013. In March 2011 and 2010, the Company’s stockholders approved amendments to the 2000 Stock Incentive Plan that increased the maximum number of total shares and the maximum number of restricted shares issuable under the plan by 10,000,000 shares and 300,000 shares, respectively.

Changes in restricted stock are as follows:

 

     Year Ended October 31,  
     2012      2011      2010  

Outstanding, beginning of year

     1,911,669         2,842,004         1,022,003   

Granted

     105,000         120,000         3,110,000   

Vested

     (1,155,002)         (1,050,335)